May 14 (Bloomberg) -- Spain is riding the wave of European Central Bank-fueled demand for its debt, introducing a new type of bond as the single currency area leaves behind the debt crisis that almost tore it apart.
The yield on Spain’s 10-year benchmark inched towards its record low at 2.853 percent at 1:25 p.m. in Madrid after the Treasury yesterday sold 5 billion euros ($6.9 billion) of its first-ever inflation-linked bond. Investors had ordered 20.3 billion euros of the debt, which matures in November 2024.
Spain’s borrowing costs will fall further as it reduces its budget deficit, Deputy Economy Minister Fernando Jimenez Latorre told reporters in Madrid. Prime Minister Mariano Rajoy separately told lawmakers that “data show the situation is on the right track.” He said the euro region’s fourth-largest economy will grow faster through 2015 as it creates more jobs.
Bond funds snapped up the sovereign’s assets after ECB President Mario Draghi pledged to spur price gains across the 18-nation bloc, boosting their potential returns. Draghi’s words have turned European debt markets on their head over the past two years since spiraling borrowing costs for Spain and Italy threatened to force them out of the euro.
“The timing is great for Spain,” said John Stopford, head of fixed-income at Investec Asset Management in London. “The performance of the peripheral market is very strong. This may continue in an environment where the European Central Bank is potentially easing further.”
While data suggested the economy in the euro region is stabilizing, inflation expectations have fallen. The euro 10-year inflation swaps, derivatives tied to increases in consumer prices, are close to their lowest level in more than five years.
Draghi said last week that the ECB’s Governing Council is “comfortable” about taking action at the June 5 monetary policy meeting, when it will publish revised forecasts for growth and inflation. Euro-region inflation has been less than half the ECB’s target of almost 2 percent since October.
Spain is counting on inflation-linked bonds to attract more investors and extend the average maturity of its debt, Treasury head Inigo Fernandez de Mesa said last month. The nation is facing record borrowing needs as its public debt burden nears 100 percent of gross domestic product, compared with 36 percent at the start of the economic slump in 2007.
“Portfolio managers are keen to diversify their south-European inflation-linked bond holdings that so far have been limited to Italy,” Marion Le Morhedec, senior portfolio manager at Axa Investment Managers said in an e-mailed comment yesterday. “A 10-year bond is welcome because long-term buyers want yield.”
While Spanish bonds returned 7.9 percent this year, beating all major issuers in the region, data show inflation-linked securities outperform their nominal counterparts in Italy, whose bonds are often considered a proxy for Spanish debt.
Italy’s inflation-linked bonds returned 7.2 percent this year versus 6.6 percent for regular debt, according to Bank of America Merrill Lynch Index. Italian linkers also allow investors who want to take the risk of an increase in interest rates to earn higher returns.
Someone who bought the 10-year Italian index-linked bond and swapped that fixed rate for a floating rate would earn 62 basis points more than the same trade using regular government bonds, according to data compiled by Bloomberg.
“This is a win-win situation,” said Jorge Garayo, a fixed-income strategist at Societe Generale SA in London. “By issuing this new product, Spain diversifies its investor base, which is important for its long-term financing strategy while investors get higher returns.”
Societe Generale is among the six banks that managed the sale. The others were Barclays Plc, BNP Paribas SA, CaixaBank SA, Deutsche Bank AG and Banco Santander SA.
“The hope for ECB stimulus supports demand for this type of asset,” said Richard McGuire, head of rates strategy at Rabobank International in London. “The strong demand for Spanish linkers is evidence that the crisis is far behind us.”
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