Portugal to Choose Irish Exit Route as Yields Sink

Parliament building in Lisbon
A Portuguese national flag flies above the parliament building in Lisbon. Photographer: Mario Proenca/Bloomberg

Banks are telling clients that Portugal is strong enough to exit its bailout program next month without the need for a financial backstop.

The country will probably opt for the Irish route and do without a precautionary credit line, according to analysts at Citigroup Inc., Commerzbank AG and Danske Bank A/S. At 3.72 percent, Portugal’s 10-year bond yields are near an eight-year low and the nation last week held its first auction of longer-term debt since seeking an emergency rescue in 2011.

“Portugal is expected to have a clean exit,” Copenhagen-based Danske Bank analysts Jens Peter Soerensen and Anders Moller Lumholtz said in an April 23 research note. “We have been recommending Portugal as one of our top trades for 2014 and so far Portugal has been the star performer.”

Investor sentiment toward Portugal has changed rapidly. Bond yields were more than twice their current level as recently as September on concern that the country might need more aid. A pick-up in the economy and a market rally spurred by the European Central Bank means the country is looking to follow Ireland, which completed its bailout program in December.

Portugal’s 78 billion-euro ($108 billion) rescue package from the European Union and International Monetary Fund is due to end on May 17. The government will decide on how to leave the program before a May 5 meeting of euro-region finance ministers in Brussels, Prime Minister Pedro Passos Coelho said last week.

Financial Review

The troika of officials from the EU, ECB and IMF began a final review of Portugal’s finances in Lisbon on April 22 and are expected to complete it “sometime” this week, Parliamentary Affairs Minister Luis Marques Guedes said. The government will hold a cabinet meeting today at which it will likely discuss a budget strategy plan, he said.

“There are now clear indications of improved fiscal and economic performance and we expect a ‘clean exit’ from the troika program,” Peter Goves, a strategist at Citigroup, said in an April 23 research note.

The 10-year bond yield dropped to 3.62 percent on April 23, the lowest since 2006. The yield reached more than 18 percent in January 2012 and was above 7 percent in September. Portugal pays interest of about 3 percent on its bailout loans.

Citigroup, Commerzbank and Danske Bank are all primary dealers in Portuguese debt. They are among the financial institutions granted that status by the debt agency to place bonds in auctions and then ensure there’s enough liquidity in the secondary market.

Auction Milestone

Portugal raised 750 million euros on April 23 auctioning bonds due in February 2024 at an average yield of 3.58 percent and attracting bids for 3.47 times the amount allotted. Portugal had previously relied on banks to sell bonds, and on Feb. 11 placed 10-year debt to yield 5.112 percent.

The bond auction last week was a milestone “paving the way” for a bailout exit without a precautionary credit line, Christoph Rieger, an analyst at Commerzbank, told clients on the day.

The debt agency has raised 6.25 billion euros selling bonds through banks this year as signs of economic recovery spurred a rally in higher-yielding European fixed-income assets. It has already started to obtain funding for 2015 and said in an April 2 presentation that Portugal ended 2013 with what it calls a treasury cash position of 15.3 billion euros.

Junk Status

Portugal remains rated below investment grade by Standard & Poor’s, Moody’s Investors Service and Fitch Ratings, which on April 11 revised the outlook on the country to “positive.” S&P and Moody’s said they may comment on Portugal on May 9.

The “scheduled double rating review from S&P and Moody’s will in our view bring at least one ratings upgrade though still no investment grade ratings from either agency,” Simon Peck and Michael Michaelides, London-based rates strategists at Royal Bank of Scotland Group Plc, said in a note, also on April 23.

Portugal emerged from its longest recession in at least 25 years in the second quarter of 2013.

The government forecasts the economy will grow 1.2 percent in 2014 after contracting 1.4 percent last year. It targets a budget deficit of 4 percent of gross domestic product this year and forecasts the shortfall will drop below the EU’s 3 percent limit in 2015, when it aims for a 2.5 percent gap. Debt peaked at 129 percent of GDP in 2013 and the government projects it will fall to 126.8 percent in 2014.

Ireland, which no longer has a junk rating, raised 1 billion euros on March 13 in its first bond auction since September 2010.

The Irish entered their 67.5 billion-euro bailout in November 2010, six months before Portugal got its package, and left without a precautionary credit line. Portugal’s Coelho said on April 23 that one of the disadvantages of opting for a credit line is that it has never been negotiated before and no one can say what conditions are associated with it.

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