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ECB Cash Fails to Wean Investors Off German Debt: Euro Credit

ECB Cash Fails to Wean Investors Off German Debt
The European central bank will offer a second tranche of loans on Feb. 28. Photographer: Simon Dawson/Bloomberg

Investors are sticking with German government debt amid concern that unlimited three-year cash from the European Central Bank won’t end the region’s debt crisis.

The yield on 10-year bunds, perceived to be the among the region’s least risky government debt, has averaged 1.90 percent since Dec. 8, when the ECB announced the three-year loan plan, compared with 3.34 percent over the past five years. Bund yields have held close to their record low of 1.64 percent even as the Stoxx Europe 600 Index has rallied 26 percent from last year’s low and 7.5 percent this year.

“There’s still a lot of skepticism as to whether Europe can pull this off,” said Elwin de Groot, a market economist at Rabobank Nederland in Utrecht, the Netherlands. “While some money is flowing into the periphery and causing a decline in spreads, bund yields have been relatively stable. This is not a trade that’s consistent with a crisis resolution scenario.”

Bund rates remain low even after Greece’s government agreed yesterday on austerity measures required for a 130 billion-euro ($173 billion) financing package, needed to avert an economic collapse that may spark a fresh wave of contagion in the euro area. Greece faces a 14.5 billion-euro bond payment on March 20.

Investors also are wary about the health of the financial system after banks took 489 billion euros of three-year loans at 1 percent last month from the ECB. The central bank will offer a second tranche of loans on Feb. 28.

Bunds Outperform

Germany’s 10-year yield has climbed 17 basis points, or 0.17 percentage point this year, to 2 percent as of 9:40 a.m. London time. In the same period in 2011, it jumped 35 basis points to 3.31 percent, as investors shifted to higher-yielding assets. Bunds finished last year with the best returns since 2008, when the collapse of Lehman Brothers Holdings Inc. triggered the global financial crisis.

German bonds handed investors a loss of 1.1 percent this year, less than the 2.3 percent decline by U.K. gilts, according to indexes compiled the European Federation of Financial Analysts Societies and Bloomberg. Treasuries, also perceived as the safest assets, have declined 0.6 percent, the indexes show.

Spanish two-year notes have rallied since Dec. 8, pushing yields down more than 2 percentage points to around 2.70 percent. German two-year rates dropped two basis points in the same period.

ING Group Cuts

ING Group NV, the biggest Dutch financial-services company, said yesterday it cut government bond holdings by 1.3 billion euros in the quarter that ended in December, compared with the previous three months, “largely due to a reduction in Italian and Spanish exposures.”

German yields are unlikely to rise as there’s still “no closure” on the sovereign debt crisis and the region’s politicians continue “muddling through,” said Alex Johnson, the London-based head of portfolio management at Fischer Francis Trees & Watts, which has $54 billion in assets.

“The material issue remains concerns around sovereign indebtedness and the extent to which bunds represent a safe haven in the current environment,” said Johnson, adding that lower yields will be supported by speculation that the ECB will do more to revive the 17-nation economy.

‘Significant Challenges’

The euro area probably will contract this year by 0.5 percent with recessions in crisis-hit Greece and Portugal, compared with a 2.3 percent expansion in the U.S., according to Bloomberg surveys of economists. Europe is also likely to underperform the U.K., which is forecast to grow by 0.5 percent, the surveys show. The region’s economy may fail to grow or show a “recession in certain phases” of this year, ECB council member Ewald Nowotny said on Jan. 30.

“Europe has still got massive, significant challenges,” William Low, head of global equities at Scottish Widows Investment Partnership, said in an interview at his Edinburgh office on Feb. 3. “You’ve still got an issue of imbalanced growth with Europe, you still have an issue of the availability of credit and the willingness of financial institutions to provide credit to the private sector.”

The German 10-year yield climbed yesterday to its highest since Dec. 13 as Greek politicians announced their agreement, clearing the way for a deal for creditors to cut the nation’s debt and win its second rescue in two years. Discussions between the Greek government and the so-called troika, the European Commission, ECB and International Monetary Fund succeeded and political leaders agreed with the result, Prime Minister Lucas Papademos’s office said in an e-mailed statement yesterday.

Premature to Cheer

“It would be premature to cheer these headlines before we know what is really behind the announcement,” said Marius Daheim, a senior fixed-income strategist at Bayerische Landesbank in Munich. “As long as we remain in a situation where we have ratification and implementation risks ahead, the 10-year bund yield should stay within this range of 1.80 percent and 2 percent.”

Germany’s government debt will equal 81 percent of gross domestic product this year, according to the latest set of European Commission forecasts. That compares with 121 percent for Italy, 198 percent for Greece and 118 percent for Ireland. European rules require euro-region nations to limit their debt-to-GDP ratio to 60 percent.

“The risk scenarios are absolutely intact, even though risky assets are rallying,” said Gianluca Ziglio, an interest-rate strategist at UBS AG in London. “The possibility that the Greek situation could get worse means there’s a lot of European demand for bunds as a precautionary asset.”

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