Today (Tuesday), Spain’s CDS is at 425, the 10yr yield is 6.25 percent, and spread to German 10yr is 384. Today, Italy’s CDS is 365, the 10yr yield is 6.10 percent and spread to German 10yr is 368. Two debt crisis indicators are flashing bright red.
When a country has its CDS above 400 and its 10 yr debt yield above 7 percent, these are seen as possible points of no return for a country. The CDS is seen as a leading indicator as investors/speculators buy insurance to protect against declining financial conditions.
The 10yr yield is seen as a coincident indicator that reflects investors’ unwillingness to own the sovereign bonds at their current price. When yields go up, the cost of funding a country’s debt increases. This creates the conditions for a downward debt spiral by which a country is effectively priced out of the global capital markets.
Yesterday on CNBC’s Strategy Session, we talked about how this situation is reaching an acute stage as we have moved from the periphery to the core of Europe in this debt spiral. Here are the points I used for reference:
(Source: Bloomberg, BMO)
Tomorrow, we have Italy’s PM Berlusconi address parliament and we have Economics Minister Tremonti call for a meeting of the Financial Stability Committee to address the crisis. Another indicator of the crisis, Spanish PM Zapatero postponed his vacation. Seriously. When the Italians and Spanish are staying home in August to deal with an economic crisis, the situation must be critical.
The European debt crisis is now entering the final end game stage with country’s that are “too big to fail and too big to bail” straining the ability of the union to hold together. This drives the risk-off trades higher; it forces the CHF to new all-time highs against the EUR and pushes gold to all time highs against theUS dollar. Given the recent downgrades to forecasts for Friday’s US employment data, these trades will be pushed further.
Andrew B. BuschDirector,