Italy Yields Surge at Sale, Adding Pressure for Solution

Italy Holds First Bond Sale After Spain Rescue as Yields Surge
Italy’s 10-year bond yield ended at 6.22 percent yesterday, the highest close in more than four months, leaving the difference with comparable German bonds at 4.7 percentage points. Photographer: Alessia Pierdomenico/Bloomberg

Italy’s borrowing costs surged at its first bond auction since Spain’s 100 billion-euro ($126 billion) bank rescue request, putting more pressure on European leaders to step up their response to the debt crisis.

The Treasury sold 4.5 billion euros of debt, including 3 billion euros of its 3-year benchmark bond to yield 5.3 percent. That was the highest yield since December and an increase of almost 1.4 percentage points from the last sale a month ago.

“Today’s auctions most likely won’t manage to restore much calm in the markets, instead it rather reflects quite well how risk averse investors have become and how uncertainty within the euro-zone and the European financial crisis itself continue to dominate the headlines and market action,” Markus Huber, head of German sales trading at ETX Capital in London, said in an e-mailed note.

The surge in Italian borrowing costs and Moody’s Investors Service decision yesterday to cut Spain’s credit rating to one step above junk piles pressure on European leaders to come up with bolder measures to stop contagion before Spain or Italy need a full-blown bailout. The euro region debt crisis will likely dominate a meeting of the Group of 20 leaders next week before an EU summit on June 28-29.

German Strength

German Chancellor Angela Merkel said today that she is “convinced” Europe is Germany’s future, adding that the country can’t solve the crisis on its own.

“If the euro fails, Europe fails,” she said in parliament in Berlin. “But we also know that our strength is not unlimited.”

Italian Prime Minister Mario Monti and Merkel will be flying to the G-20 meeting in Mexico as Greece votes on June 17 in an election that might determine whether it remains in the euro region. They will be joined by French President Francois Hollande who will also meet Monti in Rome later today.

Monti is trying to convince investors that with a budget deficit and jobless rate less than half that of Spain, Italy remains a safe bet. Still, Italian bonds have been moving in lock step with Spanish debt since Prime Minister Mariano Rajoy announced the rescue request on June 9, with the yield on the Italian 10-year bond rising more than 50 basis points in the four trading days since the aid plan.

Relative Strength

“In the near term, Italy is in a somewhat better position than Spain, Ulrike Rondorf, an economist at Commerzbank AG in Frankfurt, said in a report yesterday. “The deficit should fall below 3 percent this year already, private-sector debt is much lower and Italy does not have a burst bubble on the housing market that is weighing on the financial system.”

What links Spain and Italy is a lack of economic growth that will make it hard to reduce the debt burden. Italy’s debt reached a record 1,948.6 billion euros in April, the Bank of Italy said today. That is more as a share of its economy than any other developed nation other than Greece and Japan. The economy is mired in its fourth recession since 2001 and growth has lagged the EU average for more than a decade.

“Italy is not only battling against the recession, but also against chronically weak growth,” Rondorf wrote.

Monti yesterday called on European allies to do more to foster growth as a way to end the debt crisis and said his government would soon unveil new measures aimed at spurring the Italian economy. Still, some of his efforts to revamp the euro-region’s third-biggest economy have been watered down or held up in the legislature.

Elections Pending

The premier met with leaders of the three parties that back his unelected government on June 12, partly to confirm their support and ask them to speed passage of his labor-market reform and other legislation. Monti can only serve until spring of next year and he faces the risk of his support in the legislature weakening as elections approach and his backers prepare to campaign against each other.

“Monti’s increasingly desperate calls for support from the supine, slippery and self-interested Italian body politic highlight again that Italy’s risks are fundamentally political, and its financial woes are a symptom, not a cause of this,” Marc Ostwald, a fixed-income strategist at Monument Securities Ltd. in London, said by e mail.

Foreign Exodus

Concern about Italy’s ability to bring down a debt due to peak at 123 percent of gross domestic product this year has contributed to an exodus of foreign investors. That’s forced national lenders to stuff their balance sheets with government bonds in a buying spree fueled by the European Central Bank’s $1.3 trillion in three-year loans to euro region banks.

Foreign ownership of Italian debt has fallen to 32 percent from 50 percent in 2008, Fitch Ratings said in a May 23 report.

Italian banks have been picking up some of that slack. Their holdings’ of government bonds reached 295 billion euros at the end of April, an increase of about one third since November, according to a Bank of Italy report on June 8. With the perceived risk of holding Italian bonds on the rise, shares of those banks have been slammed.

UniCredit SpA, Italy’s biggest bank, fell almost 12 percent in the four trading days since the Spain bailout, bringing its decline for the year-to-date to 43 percent. Intesa Sanpaolo SpA shed almost 10 percent this week and has lost almost a quarter of its value this year.

Download: Standard’s Barrow Says Dynamics in Italy `Look Bad’


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