Markets

Marcus Ashworth is a Bloomberg Gadfly columnist covering European markets. He spent three decades in the banking industry, most recently as chief markets strategist at Haitong Securities in London.

Longer or riskier. That's the choice Europe's bond buyers are having to make as they search for yield.

Look at how France attracted more than 30 billion euros ($33.3 billion) of orders for its 30-year bond this week. In the end, the country issued 7 billion euros of the securities with a yield of, wait for it, 2 percent.

Investors have little room for error if Europe's political turmoil reignites or Donald Trump's presidency were to implode. Credit markets have put political turmoil behind them and are looking forward to a smooth economic recovery in Europe. Neither should be taken for granted.

Spreads in Europe's periphery have tightened dramatically since Emmanuel Macron's victory in the French presidential elections. But we still await the National Assembly elections to see if he can secure enough seats to govern effectively, let alone whether he will be able to push through an overhaul of the labor market.

Peripheral Plunge
Since Macron's win it has been risk back on for non-core European sovereigns
Source: Bloomberg

We still face election risk in Austria, where a poll has just been called for October, and Italy, where an election is due in May, if not sooner. There, the populist anti-euro Five Star Movement is neck-and-neck in the polls with the current ruling Democratic Party. Greece has yet to complete its third bailout -- yet bonds have priced in a return to normality already.

And that's just the political risk.

Perennial Underperformers
The peripheral laggards, bar Spain now, have failed to recover back to pre-crisis levels
Source: Bloomberg Intelligence
Note: Q4 2007 = 100

The European economy is showing signs of growth, but it's still patchy. Greece's GDP fell 0.1 percent in the first quarter, a worry given the horrendous 1.4 percent decline in the previous period. The other major trouble area, Italy, saw GDP rise just 0.2 percent in the first three months of this year.

Financials, once at the heart of the euro zone crisis, are seemingly back in fashion. Investors demand as large a premium in yield to hold the securities over other corporate debt, as this chart shows.

Financials Benefit Most
Senior financials have closed the gap to the overall corporate index since Macron's win
Source: Markit, Bloomberg

Investors are increasingly willing to buy junior bank debt. The extra premium investors demand to buy lower Tier 2 bonds compared with senior bonds has fallen to the lowest level since the financial crisis of 2008, as my Bloomberg First World colleague Simon Ballard points out.

Riskier Bank Debt Outperforms
The spread between senior bank debt and lower tier 2 subordinated is back to pre-crisis levels
Source: Bloomberg Indexes

Italy's largest bank, UniCredit SpA, raised 1.25 billion euros this week by selling the riskiest form of bank debt. The additional tier 1 bonds offered a 6.625 percent coupon -- much less the 9.25 percent coupon it had to pay in December. (Some of that decline, though, is down to the 13 billion-euro rights offering the lender held between the two bond offerings.)

Rebounding
UniCredit's riskiest notes have climbed back from their low last year
Source: Bloomberg

Even the bonds of troubled companies are yielding close to zero, with some even in negative territory. A.P. Moller-Maersk A/S, which has been battered by the downturns in the oil and shipping industries, has bonds that are yielding negative 20 basis points. 

This is what happens when the European Central Bank buys up huge swathes of government and investment grade corporate bonds under its quantitative easing program. No wonder investors are forced into either super long or super funky to get any form of viable return.

As long as the European economy's recovery is sustained and political risk ebbs, it's sustainable. Volatility has all but evaporated -- but it has a nasty habit of reasserting itself in an instant.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the author of this story:
Marcus Ashworth in London at mashworth4@bloomberg.net

To contact the editor responsible for this story:
Edward Evans at eevans3@bloomberg.net