LONDON (Reuters) - The euro gave up its early gains and turned negative on Monday after Italy’s president set the country on a path to fresh elections, raising concerns that such a route may deliver an even stronger mandate for the country’s anti-establishment parties.
President Sergio Mattarella’s decision to appoint Carlo Cottarelli to form a stopgap administration sets the stage for elections that are likely to be fought over Italy’s role in the European Union and the euro zone, a prospect that is unnerving global financial markets.
After climbing more than half a percent in early London trading to rise to the day's highs of $1.17285, the single currency EUR=EBS fell sharply to trade at the day's lows at $1.1647, down 0.1 percent on the day.
“Given the stance towards the euro is the single topic financial markets are most sensitive to, the worries towards Italy are probably only starting to increase in the bigger picture,” Nordea economist Jan Von Gerich said.
With elections likely to be held in the second half of the year, markets are worried the timing of Italy’s elections poses a tricky problem to European Central Bank policymakers who are on track to wind down its bond purchase program by September.
Nordea’s Gerich believes the ECB may choose a more cautious alternative and extend its bond purchases beyond that month.
The euro has been weakened by the dollar’s rally and by widening bond spreads between Italian and German debt, as markets grappled with the prospects of a spendthrift coalition government in Rome comprising the two parties.
Though investors have initially ignored the impact of the new coalition, the events in the last few days have prompted investors to cut their positions in the single currency.
Latest positioning data shows that net euro long positions are at their lowest levels this year after a fifth consecutive weekly drop in bullish euro bets.
The euro also strengthened by 0.8 percent against the Swiss franc EURCHF=EBS, rebounding from near three-month lows, but was had halved those gains in midday European trading.
Goldman Sachs strategists said political uncertainty will remain elevated, because the prospect of new elections would remain a drag on the economy.
The euro’s weakness meant that the dollar firmed against a basket of rivals on Friday .DXY and was trading 0.2 percent up on the day at 94.34 at a fresh six-month high.
Elsewhere, the dollar was flat against the Japanese yen at 109.42 yen JPY=EBS. Risk aversion receded after U.S. President Donald Trump said on Sunday a U.S. team had arrived in North Korea to prepare for a summit between him and North Korean leader Kim Jong Un.
Trump had pulled out of the summit last week, which had sapped investor risk appetite and helped push the dollar to a two-week trough of 108.955 yen on Thursday.
Trading volumes were low with Britain and the United States, the two main financial centres for foreign exchange trading, both closed for holidays, thus leading to some exaggerated price moves.
Adding to concerns was news that Spanish Prime Minister Mariano Rajoy would face a vote of confidence in his leadership on Friday.
Reporting by Saikat Chatterjee; Editing by Catherine Evans/