Bloomberg News

Money-Market Spreads Climb to Two-Year High on Europe Crisis

November 18, 2011

Nov. 17 (Bloomberg) -- Investor demand for the relative safety of Treasuries during the European debt crisis has sent the difference between U.S. short-term yields and bank rates surging to levels not seen in more than two years.

The gap between the London interbank offered rate and the overnight index swap, or what traders expect Federal Reserve’s benchmark to be over the term of the contract, widened to 38 basis points. It was the highest level since June 2009. U.S. five-year swap spreads climbed to 45 basis points, the most since August 2009.

“It’s a flight to safety,” said Akira Takei, head of the international fixed-income department at Mizuho Asset Management Co. in Tokyo, which has the equivalent of $42.7 billion in assets and is part of Japan’s third-largest publicly traded bank. “I have quite a bullish view on U.S. Treasuries. The market is quite risk-averse.”

Europe’s debt crisis brought down governments in Greece and Italy because of investor concern the nations will have trouble paying their debts. A worsening of the situation would constitute a “serious risk” to U.S. banks, Fitch Ratings said in a report yesterday. Eric Rosengren, president of the Federal Reserve Bank of Boston, said yesterday the crisis has caused “stresses” in short-term credit markets that may get worse.

U.S. three-month Treasury bill rates were unchanged at 0.005 percent as of 12:13 p.m. in Tokyo, according to data compiled by Bloomberg.

Contagion Risks

The TED spread, the difference between what lenders and the U.S. government pay to borrow for three months, widened to 47 basis points, or 0.47 percentage point, the biggest gap since June 2010.

“U.S. banks have manageable direct exposures to the stressed European markets, but further contagion poses a serious risk,” New York-based Fitch said in the report. “Unless the Eurozone debt crisis is resolved in a timely and orderly manner, the broad credit outlook for the U.S. banking industry could worsen.”

Rising bond yields from the Netherlands to Finland and Austria have fueled concern that European officials are struggling to convince investors they can stem the debt crisis that began in Greece and ensure the survival of the euro.

Yields have yet to reach the levels seen three years ago when credit markets froze and the U.S. economy was in a recession. The TED spread was as wide as 4.64 percentage points in October 2008.

Europe Spreads Wider

Two-year swap spreads increased to 52 basis points today, the most since May 2010. Investors use swaps to exchange fixed and floating interest rates. The spread is the gap between the fixed component and the yield on similar-maturity Treasuries.

Spreads are larger in Europe, according to Bill Gross, who runs the world’s biggest bond fund at Pacific Investment Management Co.

The Euribor-OIS three-month spread was 90 basis points, after widening to 97 basis points on Nov. 3, the most since March 2009.

“The spreads are much wider, which indicates much more of a risk, or perceived risk at least, in terms of the banking system,” Gross said Nov. 14 in a radio interview on “Bloomberg Surveillance” with Tom Keene from Pimco’s headquarters in Newport Beach, California. “There’s a much greater risk in the banking system.”

The rising costs of borrowing dollars in Europe, as reflected in Libor, “indicate there are mounting concerns about whether we’ll have more severe disruptions,” the Fed’s Rosengren said in a speech in Boston.

Three-month Libor has climbed to 0.471 percent from this year’s low of 0.245 percent in June, according to the British Bankers’ Association.

-- With assistance from Thomas R. Keene in New York and Joshua Zumbrun in Boston. Editors: Garfield Reynolds, Jonathan Annells

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To contact the reporter on this story: Wes Goodman in Singapore at wgoodman@bloomberg.net; Kristine Aquino in Singapore at kaquino1@bloomberg.net.

To contact the editor responsible for this story: Rocky Swift at rswift5@bloomberg.net


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