Italian political drama weighs on markets

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This is an audio transcription of the FT press briefing podcast episode: Italian political drama weighs on markets

Marc Filipino
Hello from the Financial Times. Today is Friday, July 15, and it’s your FT News Briefing.

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Markets are on edge as the Italian government falters and the euro tumbles and tumbles as currency investors flock to the safety of the greenback.

Katie Martin
The dollar just howls higher.

Marc Filipino
And US banks kicked off earnings season with a surprise for investors. I’m Marc Filippino and here’s the news you need to start your day.

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Italian politics is a bit like a bad movie right now. One of the stars, Prime Minister Mario Draghi, a man known for his skill, offered to resign yesterday after political opponents refused to work with him. The president, Sergio Mattarella, said, no, you can’t leave.

Amy Kazmin
He rejected the resignation and asked Mario Draghi to contact Parliament on Wednesday next week.

Marc Filipino
This is our correspondent in Rome, Amy Kazmin.

Amy Kazmin
So there will be plenty of political maneuvering behind the scenes as MPs decide whether they can persuade Draghi to stay or are happy Italy is locked in a snap election. There’s a lot of uncertainty about, you know, what the shape of a new government would look like. So there’s a lot of anxiety about what lies ahead.

Marc Filipino
So, Amy, how are the markets reacting?

Amy Kazmin
Draghi is seen as someone who can be relied on to maintain fiscal rectitude. I think the markets would feel more reassured if Draghi was still in power to see through the next budget. I think there will be a lot of anxiety in the markets and that will translate into a big jump in bond yields. The markets are increasingly worried about the sustainability of Italian public debt. And so bond yields go up. And the spread difference between Italian government bonds and German government bonds is widening. And it is a sign that the markets are increasingly worried about Italy’s financial situation, which will put a lot of pressure on the European Central Bank and on the euro.

Marc Filipino
Amy Kazmin is the FT’s correspondent in Rome.

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Italy’s problems are not the only ones weighing on the euro. And yesterday, Europe’s common currency fell below the US dollar for the first time in 20 years. The FT’s Katie Martin reminds us that when trouble hits, traders flock to the greenback.

Katie Martin
There are several reasons for this. One of them is simply risk aversion. People gravitate to the dollar when the going gets tough. But on top of that, holy smoke, did you take a look at the US inflation number earlier this week?

Marc Filipino
Oh yeah. We had 9.1% over one year.

Katie Martin
Crikey. Whore. And now you usually have very sane investment banks telling their clients that the next US Federal Reserve interest rate hike could be a full percentage point. So in this case, in the United States, interest rates are rising at an incredibly fast rate. All other things being equal, this is positive for currencies. And that’s how the market says, look, I think Europe is heading for a really awful recession here, and I’m not necessarily so sure the United States is. So if you line these things up against each other, it has to be the dollar every time. And you know, I just ran into Martin Wolf on the way here and he was saying, you know, as far as he’s concerned, this dollar movement is going to continue to the peak of US interest rates, and it won’t be -be not before 6 or 7 percent.

Marc Filipino
So let me clear things up. In trying to fight inflation, the Federal Reserve will raise US interest rates as we have seen, which makes the dollar stronger. But in doing so, it will drive down the value of other currencies like the euro, the one, you know, we’re talking about right now, which will exacerbate inflation in those countries. Is it correct?

Katie Martin
Yeah.

Marc Filipino
Which I guess then puts pressure on other central banks to raise their rates, to keep up, to strengthen their (sic).

Katie Martin
And they might need to raise rates even harder than they previously thought to try to get inflation under control. So this causes spirals of problems all over the place.

Marc Filipino
So what does this weaker euro mean for Europeans, Katie? What is it, why is it important?

Katie Martin
So it matters, at least in part because places like the Eurozone and the UK import a lot of things in dollars, especially energy. And so if we import a lot of oil denominated in dollars, it becomes even more expensive if those dollars are more expensive. And in turn, that can make inflation problems even worse for countries like the UK or for countries in the Eurozone.

Marc Filipino
Did you, did you hear that? These are the wheels that turn in my brain to catch up. (laughs) Katie Martin is extremely patient and the FT Markets Editor. Thank you very much Katie.

Katie Martin
Pleasure.

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Marc Filipino
Two of the largest US banks announced their second quarter results yesterday, and that’s not what analysts had predicted. JPMorgan Chase and Morgan Stanley both reported bigger than expected profit declines. But it wasn’t all bad news. This is our US banking writer, Josh Franklin.

Joshua Franklin
If you look at JPMorgan, for example, they posted their best lending revenue in over a decade. So they really benefited from the rise in interest rates. Where there was a disconnect between what analysts were expecting and what the results were actually showing was in investment banking. Analysts were far too optimistic about the resilience of investment banking in this environment, where transactions have really slowed, especially for IPOs. You have to remember that 2021 has been an incredibly lucrative year for investment banks with mergers and acquisitions, with IPOs, especially the Spac boom that we’ve seen a lot of benefited Wall Street. This is where the banks have failed. You also had other unpleasant surprises for investors, as JPMorgan said it would suspend its share buyback program while it seeks to hold on to profits to meet the Federal Reserve’s new capital requirements. And JPMorgan also said they expect to pay around $200 million in fines for record keeping on Wall Street. So overall a pretty killer quarter for the banks.

Marc Filipino
So what did JPMorgan say about its economic outlook for the rest of the year?

Joshua Franklin
JPMorgan has therefore raised its forecast on how much it expects to make from its lending business this year. Really kind of banking on the Fed raising interest rates to help them there. Interestingly, one of the big things that investors always expect from banks just because they have their finger on the pulse when it comes to the health of the economy is the health of their, the consumer American and also of the corporate landscape. And despite many questions being asked about weaknesses in credit markets, bank CEOs were genuinely very optimistic about what they were seeing from customer cash balances, with customer default rates holding up very well so far. .

Marc Filipino
Josh, we have more banking income today, including Wells Fargo and Citigroup. What are investors preparing for?

Joshua Franklin
Investors are hoping that Wells Fargo and Citi will be a bit simpler story. They should be like JPMorgan which benefits a lot from rising interest rates and makes more money from loans. Citi, I think people will be curious to see whether or not investment banking is underperforming there because they’re one of the top five players in investment banking. But given that JPMorgan in particular is a bellwether for the industry, that didn’t set the tone for earnings season.

Marc Filipino
Josh Franklin is the FT’s US banking editor.

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You can read more about all these stories on FT.com. This has been your daily press briefing on FT. Be sure to check back next week for the latest trading news. The FT News Briefing is produced by Sonja Hutson, Fiona Symon and me, Marc Filippino. Our editor is Jess Smith. We had help this week from Michael Lello, David da Silva, Peter Barber and Gavin Kallmann. Our executive producer is Topher Forhecz. Cheryl Brumley is the FT’s Global Head of Audio. And our theme song is from Metaphor Music.

This transcript was generated automatically. If by any chance there is an error, please send the details for a correction to: [email protected]. We will do our best to make the change as soon as possible.

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