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Italeave Is Back as Banks and Yields Are Crushed, Sector Rotation Is On!
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I have no idea how the Italians are going to vote when they hold their snap elections, nor do I intend to learn too much about it, it is not even clear when they will be, except that it may be months away. But what I do care about is the impact the vote may have on the eurozone. An Italeave is a very different situation than that of Brexit, because, despite Britain’s vote to leave the eurozone, it had no impact on the actual euro currency. Britain never adopted the currency, instead of sticking with the pound. But for Italy that is a different story because if they were ever to vote to leave the eurozone and be successful, it also means the exit from the currency, and the printing of the lira once again. Italy would no longer feel the benefits of a robust German economy giving the Italians the benefits of a strong currency.
I find it hard to believe that any country would leave the euro, the Greeks were the prime candidate on many occasions and instead, they opted to stay within the single currency. The ramifications of leaving the euro is too high and too steep to risk such a thing. Additionally, the EU would make the negotiations between them and the UK look mild by comparison. That is not even speaking of the inflation ramifications, and how the market might reprice Italian debt, making it hard for the country to issue new debt. Additionally, there would be no ECB to backstop them; it would not be a wise move.
But the notion that the Fed was going to tighten three times in 2018, just went out the window, with 10-year yields falling to 2.79 percent, dropping nearly 15 bps on the day. Italy tensions may also cause the ECB to change their game plan as well, regarding putting an end to QE. It serves as a reminder to all those who forgot the risk of buying 10-year Italian bonds, or German bunds for that matter. It is by no means over, regarding Italeave. I suspect we will soon be monitoring polls, while the uncertainty acts as a drag on the euro currency, and likely pushes US yields lower. To think the vote is not even likely to take place for some time.
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Dollar
The movement was not only felt in the bond market but the dollar as well, with the dollar index surging right up to the next area of resistance we had been watching at 95. It is a significant level, and I suspect we go through it. It will be a big-time negative for the multi-nationals, such as McDonald’s, Nike and the likes. But the falling interest rates should also allow some of the higher yielding stocks to perform better.
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Banks Crushed
We saw a big rotation out of the bank stocks today, with spreads contracting on the yield curve, which will hurt net interest income. Additionally, Morgan Stanley said their wealth management business slowed, adding fuel to the fire.
$26.80 on the XLF is a massive level, and should it be broken it is a horrible sign for the banks, which could result in the sector falling to nearly $23.75, a drop of about 11.3 percent. If there is any hope, the group will bounce tomorrow.
It was just a few days ago that I thought JPM was breaking out and on its way to $120. Instead, the bank has moved lower, a quick reversal, and now is clinging to support at around $106.
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Bank of America looks identical to the others.
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Equity Prices
The S&P 500 finished the day down about 1.1 percent, not the end of the world for sure, but it was the banks that brought the index down, and it was technology that kept it from being worse. In fact, the XLK was down only 55 bps, and the staples were down only 22 bps.
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The Rotation
Well so much for the breakout in the S&P 500 I noted last week, but all is not doom and gloom. I think the Italy thing may be a one or two-day event, and will likely have a more significant impact on yields and the dollar than equity prices. But it will mark a rotation out of the higher interest rate trade into the sectors that would benefit from lower rates.
Off the top of my head, it is bad for the banks, materials, energy, and multi-nationals, while good for staples, utilities, and risk-on sectors, tech, and biotech.
Enjoy!
-Mike
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Tags: #sp500 #italeave #euro #dollar #brexit #banks #rotation #ratesÂ
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Charts used with the permission of Bloomberg Finance L.P. This report contains independent commentary to be used for informational and educational purposes only. Michael Kramer is a member and investment adviser representative with Mott Capital Management. Mr. Kramer is not affiliated with this company and does not serve on the board of any related company that issued this stock. All opinions and analyses presented by Michael Kramer in this analysis or market report are solely Michael Kramer’s views. Readers should not treat any opinion, viewpoint, or prediction expressed by Michael Kramer as a specific solicitation or recommendation to buy or sell a particular security or follow a particular strategy. Michael Kramer’s analyses are based upon information and independent research that he considers reliable, but neither Michael Kramer nor Mott Capital Management guarantees its completeness or accuracy, and it should not be relied upon as such. Michael Kramer is not under any obligation to update or correct any information presented in his analyses. Mr. Kramer’s statements, guidance, and opinions are subject to change without notice. Past performance is not indicative of future results. Neither Michael Kramer nor Mott Capital Management guarantees any specific outcome or profit. You should be aware of the real risk of loss in following any strategy or investment commentary presented in this analysis. Strategies or investments discussed may fluctuate in price or value. Investments or strategies mentioned in this analysis may not be suitable for you. This material does not consider your particular investment objectives, financial situation, or needs and is not intended as a recommendation appropriate for you. You must make an independent decision regarding investments or strategies in this analysis. Upon request, the advisor will provide a list of all recommendations made during the past twelve months. Before acting on information in this analysis, you should consider whether it is suitable for your circumstances and strongly consider seeking advice from your own financial or investment adviser to determine the suitability of any investment.
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