Ciao, Silvio. Like the chanting of “Italy, Italy, Italy” at a World Cup game, it’s been all Italy, all the time in the news. You might ask, “What the heck happened Wednesday that put the markets into a tailspin given that we’ve been talking and worrying about Italy?”
Two banks, instituting higher margin requirements for Italian bondholders, raised the cost and hence the risk of owning Italian bonds — and yields pushed past 7%. Thursday morning’s auction of short Italian bonds, supported in large measure by ECB purchases, calmed the waters a bit, but failed shortly after as investors showed their reluctance to purchase any more Italian debt.
The bigger test comes next year, when almost 12% of the country’s debt has to be refinanced or rolled over. Bonds that currently pay a yield of 4.5% or a bit more would, if issued today, have to pay more than 7%. The country simply can’t afford that kind of load.
Italy, interestingly, isn’t running a budget deficit, as its revenues already cover the government’s expenses day-to-day. What the country doesn’t have is enough revenue to cover its interest costs, and higher interest rates on new bonds will only exacerbate the problem, hence the need to reduce debt somehow.
This story is far from over and unfortunately comes at a time when things are looking a bit rosier here at home. While there still aren’t any real signs of significant improvement in the housing market, employment numbers are slowly and surely creeping higher.
The most recent employment report had something for everyone. First, the headline number fell from 9.1% to 9% unemployment — an unimpressive move. But prior months’ data was revised higher, and while October’s job creation number of 80,000 looked pretty punk, revisions to August and September added 112,000 jobs that hadn’t been accounted for the first time around.
Also, last week’s unemployment claims data supports the notion that companies are both holding onto their workers and possibly doing some hiring as well. That’s good, but still not enough to be a meaningful turnaround to the jobs picture in the U.S. just yet.
While the data is a bit old, by necessity, the Rockefeller Institute says state tax revenues are up 10.8% over the second quarter of 2010, near where they were in 2007, which of course is just before the economy went into its tailspin and recession. Now, you might have heard of a huge, $3 billion municipal-bond default in Alabama and wondered if that was going to take down the entire muni-bond market, or whether all that yelling at the beginning of this year that the muni market was headed for massive defaults was finally coming true.
Fear not! The Jefferson County, Ala., bankruptcy sounds — and is — huge, but it was quite expected. The county had been working on a rescue plan for quite some time, its bonds were already deeply discounted, and when the plan unraveled there was no choice but to default — but again, this was completely expected.
As for Vanguard’s municipal bond funds, yes, they did own one Jefferson County bond in Vanguard Interm-Term Tx-Ex Inv (MUTF:VWITX), but it’s a pre-refunded bond, which means it’s already covered by money held in escrow and will be paid off in full this coming August. In fact, you’ll love this: The securities that back these bonds are non-marketable Treasury securities that are sold to states and municipalities and are called SLGS, or State and Local Government Series securities. As I would have expected, the Vanguard bond group was sticking to its sluggish, high-quality knitting and, depending on what they paid for, these bonds initially might even make money on their holdings.