Lombard Odier Investment Management is betting the euro will weaken and has cut holdings of emerging-market sovereign bonds as Europe’s debt crisis enters its “second wave.”
Investors should favor government securities issued by countries including Austria, Finland and the Netherlands, said Stephane Monier, who helps oversee more than $150 billion as head of fixed income and currencies at the Swiss money manager in Geneva. The company turned bearish on the debt of developing nations such as China, India and Russia last month as the effect of the European Central Bank’s efforts to boost liquidity through its longer-term refinancing operations waned, he said.
“There was a window for taking a little bit more risk on during the months of January and February, and in March we turned negative again,” Monier said in an April 16 interview. “What allowed this risk-on trade was related to restructuring of the Greek debt and the LTROs that were buying time.”
Monier said he started reducing his holdings of emerging-market bonds at the end of February on concern the crisis in Spain and Portugal was worsening and as a restructuring of Greek debt earlier this year sparked concern other markets could impose losses on their bondholders. He said he also saw a risk the ECB’s loans were increasing banks’ holdings of their own nation’s sovereign debt, weakening the common currency area.
‘Planting the Seeds’
The LTROs “were clearly not solving the situation but rather planting the seeds for financial problems going forward,” Monier said.
The ECB pumped a total of more than 1 trillion euros ($1.32 trillion) into the European banking system in December and February to boost liquidity in a step that helped lower borrowing costs in nations such as Spain and Italy.
The Spanish Treasury missed its maximum target at an auction of bills today even after reducing the goal. The nation’s borrowing costs almost doubled at the sale, while Italy paid 1 percentage point more than a month ago at an auction of zero-coupon bonds.
The euro strengthened 3 percent against the dollar in the first quarter before weakening 1 percent this month to $1.3205 at 5 p.m. London time today. The 17-nation currency will decline to $1.29 by June 30, according to foreign-exchange estimates compiled by Bloomberg.
Monier says he prefers the Swiss franc and dollar, traditionally seen as havens. The euro has fallen 5.8 percent over the past year according to Bloomberg Correlation-Weighted Indexes, which track 10 developed-nation currencies. The dollar gained 4.9 percent and the franc appreciated 1.4 percent.
A bond-investment index based on economic fundamentals compiled by Lombard Odier was updated this month to reduce the weightings of Italy and France and raise those of Finland, Austria and the Netherlands.
Germany’s weighting was also lowered as economic reports including the nation’s gross domestic product and current-account balance deteriorated relative to the Finnish, Austrian and Dutch indicators. The index remains overweight German bonds, Monier said.
Italian, Spanish and French bonds have all declined this month as the effect of the ECB’s loan operations has waned.
Italy’s securities have handed investors a loss of 2.7 percent since the start of April, according to indexes compiled by Bloomberg and the European Federation of Financial Analysts Societies as of April 23. Spanish debt has dropped 3.1 percent and French bonds declined 1.2 percent.
Over the same period, Finland’s bonds have returned 0.5 percent and Germany’s debt rose 1.1 percent, the indexes show.
“During the second quarter of 2012 the euro-zone situation is going to get worse and the spreads are going to widen, the euro’s going to weaken,” Monier said. “Ultimately, when the situation gets very difficult there will be another round of measures to try and fix the problem.”