Oh, Jesus. Apparently, there’s now a “consensus” among Italian politicians that new elections could be held at the end of July or early in August and that piled even more pressure on Italian bonds into the close with 2Y yields doubling on the day at one point to 2.70:
And 10y yields breaching 3.40:
As Bloomberg’s Cameron Crise notes, this is a VaR shock. “One of the least appreciated market phenomena of the last few years is the degree to which futures punters have piled into the BTP market,” he writes, in a quick take on the panic selling.
Thanks to the ongoing suppression of volatility, those VaR models have mechanically increased their position size and now, amid the selloff, they’re being forced to unwind. “That open interest has started to fall in line with price strongly suggests that the rise in open interest was from the long side and that the panicky selling we’ve observed (in both the open market and via blocks) is risk reduction,” Crise adds.
According to one fund manager who spoke to BBG on the condition of anonymity, “when volatility started picking up, all the carry traders got out of their positions in unison” and with “carry trades unwinding and liquidity poor, this is the new normal.”
Needless to say, it doesn’t help that this comes hot on the heels of the VaR shock in February (see: “Here’s What The VaR Shock Meant For Global Portfolio Managers“).
As far as anyone hanging out in EWI is concerned, just know that while today undoubtedly seems bad, there have been (much) worse days – even if you weren’t around for them:
Meanwhile, BofAML notes that according to their “proprietary flows,” both hedgies and real money were sellers of the euro for the last five weeks “even before the weekend’s political developments in Italy.”
They also remind you that that “Eurozone equity flows have turned negative since April, after very strong inflows in the months before”:
And remember, Italy-only funds just saw record weekly outflows (right pane):
The next question here (well, aside from the myriad uncertainties inherent in the Italian political quagmire) is what happens in the event the data doesn’t turn around across the pond?
Ironically, one might argue that if the incoming data doesn’t support the ECB’s “transitory” narrative with regard to the slowdown in Q1, it could end up being bullish for European risk assets as it would perhaps give officials some cover in terms of coming out dovish without overtly ascribing their newly cautious demeanor to Italian politics (and thereby opening themselves up to criticism for Berlin).
As far as the euro itself is concerned, the outlook there isn’t great. And based on the latest positioning data, it certainly seems like there’s room for more selling:
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