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Portuguese Bond Sale May Make Bailout ‘Inevitable’: Euro Credit

Portuguese Bond Sale May Make Bailout ‘Inevitable’
A pedestrian passes a closed down store in Lisbon, Portugal. Photographer: Mario Proenca/Bloomberg

Portuguese yields may be rising to levels that force the nation to follow Greece and Ireland in requesting a bailout from the European Union and the International Monetary Fund to avert default.

The nation plans a 10-year sale tomorrow, the first bond auction by any of the euro region’s most indebted countries this year. Its existing 10-year debt has yielded more than 7 percent in 10 of the past 62 days, according to Bloomberg data. Greece needed a rescue within 17 days of its 10-year yield breaching 7 percent on April 6, while Ireland lasted less than a month after it cracked that level in October.

“Even if we see a successful auction, it doesn’t mean anything, because at rates above 7 percent it’s not sustainable,” said Ioannis Sokos, a strategist at BNP Paribas SA in London. “It is inevitable that Portugal has to turn to the EU and IMF if they keep borrowing at these levels.”

The cost of insuring European sovereign debt has climbed to a record on concern backstopping the region’s banks will overwhelm government finances. Countries including Spain, Italy, the Netherlands and Germany will hold bond and bill sales worth as much as 42 billion euros ($54 billion) this week. Portugal’s six-month borrowing cost jumped to 3.686 percent at a bill sale last week, up from 2.045 percent in September.

Portuguese Prime Minister Jose Socrates said today his government will not ask for aid and that talk of a bailout is only helping “speculators.” He also said last year’s budget deficit will be lower than the government had forecast.

Japan said today it would buy bonds tied to a bailout fund for indebted European nations, echoing pledges by China to help stem the region’s debt crisis.

Investor Referendum

“In this environment, each auction by Portugal and Spain is seen by the market as a referendum on its likelihood of continuing without rescue,” said Toby Nangle, who helps oversee $46 billion as director of asset allocation at Baring Asset Management in London. “People aren’t looking for a failed auction; it’s the rate they’re looking at.”

Portugal plans to borrow as much as 1.25 billion euros tomorrow by issuing debt repayable in October 2014 and June 2020, the nation’s debt agency said Jan. 6. The following day, Spain will auction as much as 3 billion euros of five-year bonds, while Italy will market 6 billion euros of securities maturing in 2026 and 2015.

The Netherlands issued 3.5 billion euros of debt today, with Germany seeking 7 billion euros tomorrow. Greek and Italian borrowing costs rose and demand waned at sales of almost 9 billion euros of bills today.

A bailout for Portugal may oblige Germany to end its objections to expanding the region’s 750 billion euro rescue facility, or to bond issues that are guaranteed by all euro members, according to Christoph Rieger, head of fixed-income strategy at Commerzbank AG in Frankfurt.

‘Crucial Test’

“Portugal will be the crucial test,” Rieger said. “They’ll have to come up with a multiplying of the bailout money or something like a common bond to turn things around.”

Chancellor Angela Merkel’s chief spokesman, Steffen Seibert, declined to repeat German objections to restocking the rescue fund after the Handelsblatt newspaper reported on Jan. 9 that EU leaders may discuss an increase in February. Merkel has up to now opposed expanding government-funded help for debt-plagued euro nations, saying as recently as Dec. 6 that she sees no need for additional aid.

The yield on Portugal’s 10-year bond rose 65 basis points last week before falling about 20 basis points yesterday to 7.20 percent after traders said the European Central Bank was buying the debt. The yield jumped 61 basis points in the week before its last 10-year bond auction on Nov. 10, and 59 basis points in the five days leading up to its Sept. 22 sale. It was five basis points higher at 7.25 percent at 10:15 a.m. in London.

Investors bid for 2.1 times the securities offered in November, and 4.9 times at the September sale. The government sold 1 billion euros of 2.5 year zero-coupon notes privately on Jan. 7 in a transaction led by Deutsche Bank AG. Portugal needs to borrow 20 billion euros in bonds this year, to finance its budget deficit and redemptions.

‘Self-Fulfilling Prophecy’

The relatively small size of tomorrow’s sale “may allow them to get the auction away, but with 20 billion euros of issuance this year, unless longer-dated yields stabilize, then the market may well start to expect that Portugal will have to seek EU/IMF assistance, and it might then become a self-fulfilling prophecy,” Gary Jenkins, head of fixed income strategy at Evolution Securities Ltd. in London, wrote in a research report yesterday.

Weakness in Portuguese bond markets spilled over to the other most-indebted euro nations in recent months. The Spanish 10-year bond yield climbed from a five-month low of 3.95 percent on Oct. 12 to 5.54 percent yesterday. The equivalent Italian yield was at 4.85 percent, from a 2010 low of 3.73 percent.

Support From Asia

Japanese Finance Minister Yoshihiko Noda said his nation will use foreign-exchange reserves to buy bonds to be issued under a special assistance program for Ireland. Japan wants to buy “more than 20 percent” of the securities, Noda said today in Tokyo.

The European Commission said last month that Europe’s financial aid funds for distressed governments will sell bonds to raise as much as 34.1 billion euros for Ireland in 2011 and 14.9 billion euros in 2012.

Chinese Vice Commerce Minister Gao Hucheng said on Jan. 5 in Madrid that China will buy Spanish public debt in the primary and secondary markets. Chinese Vice Premier Wang Qishan said on Dec. 21 his nation had taken “concrete action” to help Europe with its debt problems.

“We won’t see any difficulty for the Italian auction,” said Sokos at BNP Paribas. “Demand was there for Spain in December. If you combine this with the recent comments from China then I don’t think we’ll have problems with Spanish auctions at the beginning of the year.”

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