Italy Bonds Slide, Premium to Bunds at Record, on Greece Concern

Italian bonds led declines in the securities issued by Europe’s most indebted nations after a Greek plan to hold a referendum on its international bailout added to concern the region’s financial turmoil will deepen.

Italy and France’s 10-year borrowing costs climbed to the highest levels relative to benchmark German bunds since before the creation of the euro in 1999. Bund yields fell the most on record, with the securities outperforming all their euro-area peers, as investors sought the safest assets. Greek two-year yields climbed to a record high 87.28 percent as members of the nation’s ruling party called for Prime Minister George Papandreou to resign.

“If we keep seeing yields rise in this way day after day as we now wait for this referendum then I think you really can talk about that market being in meltdown,” Steven Barrow, a London-based economist at Standard Bank Plc, said in an interview with Ken Prewitt on Bloomberg Radio’s “Bloomberg -- The First Word.” “Italy is the main focus.”

Italian 10-year yields rose 10 basis points, or 0.1 percentage point, to 6.19 percent at 4:59 p.m. London time, after climbing to as much as 6.34 percent. The 4.75 percent debt maturing September 2021 dropped 0.650, or 6.50 euros per 1,000-euro ($1,370) face amount, to 90.14. The difference in yield, or spread, over similar-maturity German bunds reached a euro-era record 455 basis points.

‘Political Gamble’

Papandreou called a referendum and a parliamentary confidence vote yesterday, raising the prospect of derailing a European bailout effort and pushing Greece into default. Six senior members of the ruling socialist Pasok party later called on him to step down, state-run Athens News Agency reported, without citing anyone.

“It’s just another spanner in the works, this Greek referendum,” said Orlando Green, a fixed-income strategist at Credit Agricole SA in London. “It adds to the ongoing uncertainty with regards to the implementation of the European Union rescue effort. The core bonds are doing well, in particular Germany, so the impact has taken place already.”

Papandreou’s popularity has plunged as he introduced a raft of austerity measures required as a condition of the European Union and International Monetary Fund rescue plan.

Greek two-year note yields surged 954 basis points to 87.28 percent, as the price dropped to 35.38 percent of face value. The yield earlier reached a record 88.81 percent.

Pacific Investment Management Co. Chief Executive Officer Mohamed El-Erian said in an e-mailed message today that Greece’s strategy is a “major political gamble.”

Stocks Slide

“The run-up will put the European Central Bank, European Union and International Monetary Fund in a tough position regarding disbursements to Greece,” El-Erian wrote. The EU deal “appears to be unraveling from many sides.”

Fitch Ratings said the planned referendum poses a threat to financial stability in the region. The vote “dramatically raises the stakes for Greece and the euro zone as a whole,” Fitch said in a statement today, adding that it increases the risk of a “disorderly” default.

The ECB was said by three people to have bought Italian debt today as it tries to stem financial-market contagion to the euro area’s biggest bond market. Two-year note yields still rose as many as 75 basis points to 5.75 percent, the highest since 1997. The five-year rate rose to more than 6 percent, a premium of more than 5 percentage points compared with similar-maturity German debt.

The Stoxx Europe 600 Index of shares slid 3.6 percent, led by a 6.8 percent decline in bank stocks. Credit Suisse Group AG fell the most in almost three years in Zurich trading as its third-quarter net income fell short of analyst estimates. The euro weakened for a third day, declining 1.1 percent to $1.3703.

Credit-Default Swaps

The Markit iTraxx SovX Western Europe Index of credit-default swaps on 15 governments soared 23 basis points to 327. An increase signals worsening perceptions of credit quality.

President Nicolas Sarkozy is “dismayed” by Papandreou’s plan to hold a referendum, Le Monde reported, citing people close to the French leader.

“They discussed referendums back in September but I think we thought that had been taken off the table so it must have come as a shock to everybody,” said Huw Worthington, a fixed-income strategist at Barclays Capital in London. “It’s pretty amazing.”

The yield spread between German bunds and 10-year Belgian debt widened to as much as 266 basis points, a euro-era record, and the German-French yield spread increased 16 basis points to 123 basis points.

The yield on 10-year German bunds fell as much as 29 basis points, the most on record, as investors sought assets perceived to be safest. It was 27 basis points lower at 1.75 percent, the biggest two-day decline since Bloomberg began collecting the data in 1992.

German Spread

The ECB governing council meets in two days for the first time under new president Mario Draghi, who took over from Jean-Claude Trichet today. While the median estimate of 54 economists surveyed by Bloomberg News is for policy makers to leave the benchmark interest rate at 1.5 percent, four predict a 25 basis-point reduction, with two forecasting a 50 basis-point cut.

Euribor futures rose, pushing the implied yield on the June 2012 contract nine basis points lower to 1.03 percent, a sign investors were adding to bets for lower borrowing costs. The difference in yield between two- and 10-year German securities narrowed 13 basis points to 136 basis points.

The yield on Swedish benchmark debt dropped to the least in more than three weeks after data showed manufacturing in the largest Nordic economy contracted for a third consecutive month in October. The 10-year yield dropped 24 basis points to 1.70 percent. The yield change in the nation’s 10-year bonds was 4.2 times the 90-day average, a Bloomberg gauge showed. Sweden isn’t part of the euro area.

German bonds have returned 7.1 percent this year, according to indexes compiled by Bloomberg and the European Federation of Financial Analysts Societies. Italian bonds lost 4.9 percent, while Spanish debt handed investors a 3.4 percent profit.

Download: Barrow Says Bond Market in a Meltdown'


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