European Central Bank President Mario Draghi’s 14-month-old promise to safeguard the euro-region’s recovery is proving to be a more powerful signal for investors than political turmoil in Rome and Washington.
With a government shutdown in the U.S. threatening to rattle markets, the extra yield investors demand to hold 10-year Italian bonds rather than benchmark German bunds rose by only as much as 26 basis points this week. Italian and Spanish bonds are leading gains in developed markets over the past six months even after Italy’s government flirted with collapse before Prime Minister Enrico Letta won a Senate confidence vote yesterday.
“If this had happened a year, or one and a half years ago, it would have had a much bigger impact on the market,” said Elwin de Groot, senior market economist at Rabobank Nederland in the Dutch city of Utrecht. “That’s already a demonstration of the confidence the market has in the ECB’s resolve.”
BlackRock Inc. (BLK), the world’s biggest money manager, said last week it was buying Portuguese, Irish and Slovenian debt, betting that the central bank support will lower yields. It reiterated that view after the ECB’s meeting yesterday. Neuberger Berman Group LLC, which manages $214 billion, said this week that political turmoil may create an opportunity to buy Italian bonds because the economy is improving.
The economy in the 17-member euro region emerged from its longest recession on record earlier this year, expanding 0.3 percent in the second quarter. After shrinking by 0.4 percent this year, output will increase 1 percent next year and 1.4 percent in 2015, according to Bloomberg surveys of economists.
“The economic momentum is better at the moment,” said Martti Forsberg, a portfolio manager at Nordea Investment Management in Helsinki, who also has been buying Italian bonds. “The market is clearly more liquid in countries such as Spain so that market turbulence doesn’t spread so easily.”
Nordea Investment, part of the Nordic region’s largest bank, had an underweight position on Italian bonds after elections in February failed to produce a government until April. That position is now neutral, said Forsberg, who runs about 2.5 billion euros ($3.4 billion) of European debt.
Since taking over as head of the ECB in November 2011, Draghi has acted to shield the euro area’s economy from the debt crisis that started in Greece in late 2009, cutting the refinancing rate to a record low 0.5 percent and flooding the banking system with 1 trillion euros of three-year loans.
Draghi, 66, also unveiled a bond-buying program called Outright Monetary Transactions, or OMT, which so far has cost the ECB nothing as borrowing costs in the region declined while confidence among investors rose.
BlackRock, which oversees $1.2 trillion in fixed income assets, is “overweight” Portuguese, Irish and Slovenian government bonds, meaning the New York-based firm has raised its holdings to more than what’s represented by the benchmark used to gauge performance. BlackRock is neutral on Spanish and Italian debt.
“We are a huge fan of the peripheral bond markets,” Scott Thiel, BlackRock’s deputy chief investment officer for fundamental fixed income, said at a media briefing in London on Sept. 25. “The ECB will keep monetary policy loose.”
The ECB left its main interest rate at an all-time low yesterday as predicted by all 52 economists in a Bloomberg News survey. After the decision, Draghi told reporters in Paris that the ECB is ready to prevent “a liquidity accident standing between now and a recovery.”
In Portugal, where the nation’s leadership was forced to deny a local newspaper report this past weekend that it was in talks about a second bailout, yields fell to 6.51 percent the day the U.S. government closed after Congress failed to agree on a spending plan. That was the lowest since Aug. 28.
Yields in Portugal jumped above 8 percent on July 3 after a cabinet disagreement over budget policy.
Italy was plunged into its political crisis as former Premier Silvio Berlusconi pulled his People of Liberty ministers in protest against plans to expel him from the Senate after he was convicted of tax fraud. He backtracked yesterday on his pledge to bring down the government and supported Letta after “internal strife” within his own party.
Italian bonds gained 4 percent in the six months through yesterday, while their Spanish counterparts rose 5.6 percent, Bloomberg bond indexes show.
Spain sold 10-year bonds today at average yield of 4.269 percent, the lowest level since September 2010 and down from a rate of 4.503 percent on Sept. 5.
The spread for 10-year Italian debt relative to German bunds of similar maturity dropped to 2.54 percent today from as high as 2.9 percent on Sept. 30. The gap is more than a percentage point lower than the 2013 high of 3.61 percent, data compiled by Bloomberg show.
“Draghi has always given a clear signal that the ECB will always provide the liquidity that’s needed and I believe him,” said De Groot at Rabobank. “This is also more in the spirit of the OMT. It’s verbal intervention.”
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