Portugal’s Rally Leads European Bonds as Early Election Avoided

Portugal’s bonds advanced, with 10-year yields dropping the most since January, after President Anibal Cavaco Silva said the government will stay in office until its term ends and he doesn’t want to call early elections.

Portugal’s 10-year yield fell to a four-week low even after ruling coalition parties and the main opposition Socialists were unable to agree on measures to complete a European Union-led bailout plan after six days of talks. Italian and Spanish securities advanced and German 10-year yields were two basis points from a six-week low. Government bonds across Europe rose last week on optimism central banks around the world will maintain stimulus measures that subdue interest rates.

“The confirmation of the current government by President Cavaco Silva has added to the notion that the political crisis has been resolved for the time being,” said Marius Daheim, a senior fixed-income strategist at Bayerische Landesbank in Munich. “That’s of course a positive, supportive factor for Portuguese bonds, but it remains to be seen how long-lived this political stabilization will be.”

Portugal’s 10-year yield fell 42 basis points, or 0.42 percentage point, to 6.38 percent at 4:15 p.m. London time. That’s the steepest drop since Jan. 2. It reached 6.31 percent, the lowest level since June 20. The 4.95 percent bond maturing in October 2023 advanced 2.825, or 28.25 euros per 1,000-euro ($1,316) face amount, to 89.45.

Majority Support

“The government has the support of an unequivocal majority in parliament,” Cavaco Silva said in a speech in Lisbon yesterday. The government will ask lawmakers to approve a confidence motion, said the president, who has the power to dissolve parliament.

The Portuguese 10-year yield has dropped from a record 18.29 percent in January 2012 as investors regained confidence in the Iberian nation and its aid program overseen by the European Commission, the European Central Bank and the International Monetary Fund. The government will also complete its aid program, the president said today in Vila de Rei.

The extra yield investors demand to hold 10-year Portuguese debt instead of similar-maturity German bunds narrowed 42 basis points to 486 basis points. The spread may shrink to as little as 400 basis points, Goldman Sachs Group Inc. analysts Silvia Ardagna and Andrew Benito wrote in a note to clients.

Positive Reaction

“Investors are likely to react positively to elections having been avoided,” they said. “The Portuguese government bond market has scope to rally versus Germany, but yields will remain higher than estimated fair values until a new program is agreed upon and more support is provided.”

Germany’s 10-year bund yield was little changed at 1.52 percent after declining to 1.50 percent on July 19, the lowest since June 7.

Volatility on Portuguese bonds was the highest in euro-area markets today followed by those of Finland and Spain, according to measures of 10-year debt, the yield spread between two- and 10-year securities, and credit-default swaps.

The cost of insuring Portugal’s sovereign debt fell to the lowest in three weeks. Credit-default swaps linked to the country’s bonds dropped 47 basis points to 454, the biggest decline since Nov. 21.

The comments by the Portuguese president mask deeper, underlying problems, according to strategists at Rabobank International led by Richard McGuire in London.

Split Opinion

“This maintenance of the status quo does nothing to address the divergences of opinion within the ruling coalition,” they wrote in an e-mailed note. “It would be wrong to take this morning’s relief rally in Portuguese government bonds as signaling the all clear in terms of Portuguese political risk and the threat this represents regarding the potential need for additional official creditor support.”

Italy’s 10-year rate dropped seven basis points to 4.33 percent and the yield on similar-maturity Spanish bonds slipped six basis points to 4.62 percent.

Greek 10-year bonds snapped a seven-day advance, with the yield increasing five basis points to 10.24 percent.

Portuguese bonds returned 0.3 percent this year through July 19, according to Bloomberg World Bond Indexes. German bonds handed investors a loss of 0.6 percent.

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