With Rome appearing to square off with Brussels over its contentious budget, BTPs have faced considerable pressure and bank stocks have been hammered. This is the nefarious doom loop: Italian banks own a large chunk of Italian government debt and, given the lack of sufficient bailout capital at the EU level, the government is liable for the bank sector. According to IMF data, Italian banks own 26% of Italian government debt, far above the 19% simple average for developed markets. Moreover, euro-area debt securities constitute 12% of Italian bank assets.
Reflecting this symbiotic relationship, the rolling 3m daily correlation between the 2-year BTP yield and the FTSE MIB Banks 15% capped index has dropped to levels not seen since the eurozone sovereign debt crisis. Unsurprisingly, the cost of default protection against the Italian sovereign and Italy’s largest banks has moved in lockstep. While this suggests that local banks will remain under pressure in the near term, a positive resolution to the budget would be the trigger for going tactically long Italian bank stocks.
Source: Bloomberg, Macrobond and Variant Perception