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Italy ETF Faces More Challenges

This article was originally published on ETFTrends.com.

The iShares MSCI Italy Capped ETF (EWI) continues struggling. EWI, the largest ETF dedicated to stocks in the Eurozone’s third-largest economy, slid nearly 6% in August, bringing its year-to-date loss to about 11%.

At least one major ratings agency is taking a pessimistic view of Italy. Last week, Fitch Ratings revised its outlook on Italy's Long-Term Foreign-Currency Issuer Default Rating (IDR) to negative from stable. Fitch still has a BBB credit rating on Italy, which is an investment-grade rating.

“Following the formation of the new coalition government, Fitch expects a degree of fiscal loosening that would leave Italy's very high level of public debt more exposed to potential shocks, and we consider the downside risks to our fiscal forecast have increased since the last review in March,” said Fitch in a recent note. “The latter is partly a function of the new and untested nature of the government, the sizeable policy differences between its coalition partners, and inconsistencies between the high cost of implementing new pledges as set out in its policy 'Contract' and its stated objective to reduce public debt. It is unclear how these policy tensions will be resolved.”

Examining 'EWI' ETF

The $405.62 million EWI follows the MSCI Italy 25/50 Index and holds 24 stocks, but the fund is heavily dependent on the financial services sector. That sector is nearly 30% of ETF's weight, or almost 50% higher than the fund's second-largest sector allocation, putting EWI front-and-center in Italy's efforts to reform its vulnerable banking system.

Rising government deficits are seen as another potential headwind for the Italian economy.

“Fitch forecasts a further increase in the general government deficit, to 2.6% of GDP in 2020, as the political pressure to deliver more of the core Contract measures builds,” said the ratings agency. “We consider the risk of financial market instability will act as the main constraint on the degree of fiscal expansion, on top of which the 3% of GDP deficit threshold under the EU Excessive Deficit Procedure should provide some fiscal anchor, partly given its greater visibility with the public.”

Political volatility also remains an issue in Italy and should be acknowledged by investors considering Italian assets, including EWI.

“The marked ideological and policy differences between the Five Star Movement and Lega are likely to put increasing strains on the cohesion of the coalition, their narrow majority of 12 seats in the Senate could complicate the legislative process, and Lega could consider resurrecting its previous national election agreement on the right with Forza Italia and Brothers of Italy,” according to Italy.

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