Salient to Investors:

Nicholas Spiro at Spiro Sovereign Strategy writes:

  • Market sentiment toward the euro area has swung from panic to growing confidence in just six months. Spain and Italy, the twin bellwethers of sentiment on Europe, show how markets are again underpricing sovereign risk as even a cursory glance at their economic fundamentals suggests that the rally in their sovereign-bond markets is way overdone. Both countries are in a far worse state economically and politically than in December 2010, yet their 10-year bond yields are narrower now than then.
  • Italy’s problems are deep-rooted, but it is in better shape than Spain, whose economy is trapped in a vicious circle. IMF says Spain’s public-debt level,  40 percent of GDP in 2008, has risen to almost 90 percent.
  • The decade-long “convergence play” laid the foundations for Europe’s debt crisis as yield-hungry investors bet that Europe’s monetary union would result in the borrowing costs of member countries converging to that of the strongest, Germany.
  • Markets have short memories, particularly when exceptionally low interest rates make the lure of higher-yielding investments irresistible. Failure by investors to pay far more attention to country-specific risk is a big part of what got us into this mess in the first place.

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