Southern European borrowing costs rise as spotlight turns to EU meeting

By Dhara Ranasinghe and Elizabeth Howcroft

Southern European bond yields rose to near one-month highs on Monday, a sign of investor unease ahead of a European Union summit later this week over how to tackle the economic fall-out from the coronavirus crisis.

Portugal’s 10-year borrowing costs hit one-month highs after Fitch Ratings on Friday downgraded the country’s ratings outlook to stable from positive, saying its tourism-driven economy was especially exposed to the pandemic’s downside risks.

Spain’s 10-year bond yields also rose to their highest in a month; Italy’s borrowing costs neared one-month highs.

Selling pressure on Italian government bonds has returned in the past week, undoing some of the benefits of the European Central Bank’s massive bond-buying scheme, after euro zone politicians failed to agree to common debt issuance as a means of addressing the economic slump.

Europe will need at least another 500 billion euros ($544.10 billion) from EU institutions to finance its economic recovery, on top of the agreed half-a-trillion package, the head of the euro zone bailout fund, Klaus Regling, said.

Lyn Graham-Taylor, fixed income strategist at Rabobank, said that he was positioned for a sell-off in peripheral bonds after Thursday’s meeting because the euro zone would not be able to share debt costs.

“If there’s a big number announced the market will just rally just because it wants there to be a positive development,” he said. “But…everything at the moment suggests it’s going to be difficult for there to be something akin to mutualisation of liabilities.”

Deutsche Bank strategist Jim Reid wrote in a note to clients: “Expect creative ambiguity to rule as it normally does on the continent. Nevertheless you would expect more explicit details to be outlined as to how Europe will help Italy. Will this be enough to keep Italian spreads (and domestic politics) in check though?”

Yields across the Italian curve were as much as 17 basis points higher on the day. Italy’s 10-year bond yield rose to 1.96% – edging back towards one-month highs hit last week. The yield gap over top-rated German Bunds was at 239 bps, around 20 bps wider from Friday’s closing levels.

Portuguese and Spanish 10-year bond yields rose to one-month highs at 1.06% and 0.899% respectively.

The Italian bond market faces another test at the end of the week when S&P Global reviews Italy’s BBB rating with a negative outlook.

Italy hired a syndicate of banks to sell a new 5-year bond and reopen an existing 30-year bond “in the near future subject to market conditions,” a phrase lead managers often use for deals that are sold the next day.

Luxembourg announced that it had hired banks to issue new 5-year and 10-year euro bonds – a rare sale which is also likely to be imminent, according to lead manager memos seen by Reuters.

Elsewhere, Germany’s benchmark 10-year bond yield was little changed around -0.44%.

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