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Europe’s 'next domino to fall’ is teetering: Strategist

Problems are piling up in Italy, sending Italian stocks sinking and creating fresh concerns about the future of the European Union.

The ETF tracking the MSCI Italy index (EWI) has become one of the year's worst-performing, losing about a quarter of its value in 2016. Unfortunately, Boris Schlossberg, managing director of FX strategy for BK Asset Management, doesn't see an Italian renaissance anywhere in the cards, and says Italy's financial sector is to blame.

"That sector has just gotten decimated because the Italian banks are effectively bankrupt," he said Thursday on CNBC's "Power Lunch." "They need to be recapitalized and that's really the core of the issue, whether the Italian banks can be recapitalized by the Italian government."

About 24 percent of EWI is made up of financials. The problem is that Italy's banks are burdened by about $400 million worth of loans, sending investors fleeing from these financial institutions. Many of the country's banks have seen their share prices plunge by more than half this year alone, with flagship names like the Monte dei Paschi di Siena falling by almost 80 percent.

The banking sector's staggering losses have been compounded by the political uncertainty in Italy and Europe as a whole, especially with Italy's eurosceptic Five Star Movement party gaining ground and becoming the country's most popular political party.

"There's a lot of back and forth between [Italian prime minister] Matteo Renzi, between [German chancellor] Angela Merkel, between all of the EU leaders," Schlossberg added. "That's a very important issue because Italy, to me, is the next domino to fall in Europe. It has really been teetering at the edge of collapse for a very long time."

For Max Wolff, chief economist at Manhattan Venture Partners, Italy's "heavily indebted" economy has kept the country fragile for years. While many American investors may have believed that Brexit would damage Europe as a whole, Wolff emphasizes that Brexit is likely to really only hurt the U.K. in the long run while the problems experienced by other European countries are purely eurozone issues.

This includes Italy, whose "heavily indebted" economy, like that of many other struggling European countries, now also faces the prospect of a weak euro despite the currency's strength against the pound in recent days, according to Wolff. But as the continent's fourth-largest economy, Italy could very well put Europe in limbo as the country's economy and its banks, in particular, are put increasingly under pressure.

On Friday morning, Italian stocks staged an impressive bounce, as Italy appeared to take steps to recapitalize its banks. This led Lindsey Group market analyst Peter Boockvar to strike a bullish tone on Italian stocks.

"From a valuation and yield perspective, the Italian stock market is dirt cheap," Boockvar wrote in a Friday morning note."If Renzi wins in October and the banks get more capital, there will be great buying opportunities there."

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Brian Sullivan

Brian Sullivan is co-anchor of CNBC's "Power Lunch" (M-F,1PM-3PM ET), one of the network's longest running programs, as well as the host of the daily investing program "Trading Nation." He is also a frequent guest on MSNBC's "Morning Joe" and other NBC properties.

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