Bloomberg News

Italian Bonds Drop on Aid Plan Concern; Bunds Jump on U.S. Debt

July 27, 2011

July 27 (Bloomberg) -- Italian and Spanish government bonds declined, increasing the yield relative to benchmark German bunds, on speculation Europe’s aid package may not be sufficient to prevent contagion.

German bonds rose for a fourth day and European bank stocks slid as Finance Minister Wolfgang Schaeuble said the government is against a “blank check” for the European Financial Stability Facility to buy bonds of troubled euro members in the secondary market. The yield discount investors are willing to accept for 10-year bunds rather than similar-maturity Treasuries reached the widest in more than five months as U.S. lawmakers struggled to reach an agreement over the nation’s debt ceiling.

“If you look into the details of the EU summit decision, it doesn’t take you long to get to where the weak points are,” said Marius Daheim, a senior fixed-income strategist at Bayerische Landesbank in Munich. “You still have two countries that are too big to save and are not effectively protected from negative market sentiment. The U.S. debt crisis is also a factor that supports German bunds.”

Italian 10-year bonds yields rose 14 basis points to 5.76 percent as of 4:12 p.m. in London. The 4.75 percent security due September 2021 fell 0.960, or 9.6 euros per 1,000-euro ($1,437) face amount, to 92.91. Equivalent-maturity Spanish yields were two basis points higher at 5.98 percent.

Wider Spreads

Ten-year bund yields fell nine basis points to 2.65 percent, after sliding to 2.64 percent, the lowest since July 18. Yields on two-year notes declined seven basis points to 1.27 percent.

Italy’s bonds stayed lower after an auction of 942 million euros of inflation-linked bonds due in 2021. Investors bid for 1.69 times the amount of securities on offer, at an average yield of 4.07 percent, compared with a bid-to cover ratio of 1.51 and an average yield on 2.51 percent last time the securities were sold in May.

The difference in yield between Italian and Spanish bonds and their German counterparts widened. The Italian 10-year security yielded 311 basis points more than similar-maturity bunds, up from 289 basis points yesterday, while the Spanish- German spread rose to 334 basis points from 322.

The cost of insuring against default on Italian government debt rose 16 basis points to 291 and Spain increased 14 to 337, according to CMA prices for credit- default swaps.

EFSF Mandate

European leaders declined to increase the size of the 440- billion-euro European Financial Stability Facility as part of the array of additional measures to fight the debt crisis unveiled on last week. The EFSF would have about 323 billion euros to fend off any speculative attacks against Spain and Italy after contributing to Greece’s second aid package, European officials said at the time.

“The mandate of the EFSF has been extended but the size hasn’t been increased accordingly,” said Daheim. “You get the impression that there are too many things the EFSF is supposed to be doing. The weak points justify spreads between Spain and Italy and bunds not having narrowed more since the summit.”

In a letter to coalition lawmakers summarizing the results of the July 21 summit, Schaeuble said of bond buying that “in the future such purchases must only take place under very tight conditions, when the ECB establishes that there are extraordinary circumstances in financial markets and dangers to financial stability.”

His comments echo Chancellor Angela Merkel, who said one day after the summit that she’s opposed to allowing the fund to engage in “unconditioned” bond-buying in the secondary market.

Bank Stocks

France, Europe’s second largest economy, may not hold a parliamentary vote on the new package of financial support for Greece until October, Finance Minister Francois Baroi said.

The French cabinet will clear the plan next week and the nation’s lawmakers will vote by October, he said today.

The risk of bank writedowns and more contagion from the debt crisis helped to drag the Stoxx 600 Banks Index down 1.8 percent, led by Italian lenders. UniCredit SpA slid 3.9 percent while Intesa Sanpaolo SpA dropped 4.2 percent.

Cyprus’s bonds fell after the Mediterranean island was downgraded by to Baa1 from A2 by Moody’s Investors Service, with a negative outlook. The yield on the nation’s 6 percent bond maturing in June 2021 climbed 21 basis points to 10.12 percent.

Two year Irish and Portuguese notes surged, with the rate on Ireland’s two-year debt plunging 162 basis points to 14.63 percent. Portuguese note yields dropped 55 basis points to 14.53 percent.

Irish Rally

“People are focusing on the fact that the lending rate is going to be lowered quite substantially” for Ireland and Portugal, said Huw Worthington, a fixed-income strategist at Barclays Capital in London. “We view these two countries as having much more sustainable debt loads than Greece.”

The yield on 10-year bunds fell to the lowest in more than a week as investors sought refuge from U.S. market turmoil in the safest European assets. The struggle over spending cuts may lead to the U.S. losing its top-level credit rating, according to BlackRock Inc. and Loomis Sayles & Co.

Moody’s Investors Service, Standard & Poor’s and Fitch Ratings have all said they may cut the nation’s top-level sovereign ranking if officials fail to resolve the stalemate, which has seen the dollar slide 13 percent this year against a basket of nine peers.

German government bonds handed investors 1.8 percent this year, compared with 3.5 percent for U.S. Treasuries, according to indexes compiled by Bloomberg and the European Federation of Financial Analysts Societies. Italian bonds have lost 2.3 percent, while Portugal’s have declined 23 percent.

--With assistance from Abigail Moses in London. Editors: Matthew Brown, Keith Campbell.

To contact the reporters on this story: Lucy Meakin in London at; Paul Dobson in London at

To contact the editor responsible for this story: Daniel Tilles at

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