Spanish Bond Yield Falls to 3 1/2-Year Low as Unemployment Drops

Spain’s government bonds advanced, pushing 10-year yields to the lowest since May 2010, as a report showing unemployment fell the most in six months in December added to signs the region’s economy is gaining momentum.

The extra yield investors demand to hold Spanish 10-year debt instead of similar-maturity German bonds shrank below 2 percentage points for the first time since May 2011. Spanish unemployment fell 107,570 last month, the biggest decline since June, the Ministry of Labor said. Italy’s bonds also rallied, with 10-year yields dropping to the lowest since May. Germany’s benchmark 10-year bund yield was about three basis points from the highest level since September.

“It’s a sign of belief that the worst is over,” said John Wraith, a fixed-income strategist at Bank of America Corp. in London. “Although the data’s not great, it’s still suggesting that we’re not necessarily heading back to any traumatic situation any time soon. These bonds can go on performing for the time being.”

Spain’s 10-year yield declined seven basis points, or 0.07 percentage point, to 3.90 percent at 4:10 p.m. London time after sliding to 3.89 percent. The 4.4 percent bond maturing in October 2023 rose 0.605, or 6.05 euros per 1,000-euro ($1,361) face amount, to 104.02.

The extra yield on the securities over 10-year German bunds narrowed to as little as 194 basis points, down from a euro-era record 650 basis points set in July 2012. Spain’s two-year yield dropped as much as 13 basis points to a record 1.05 percent.

‘Recovery’ Year

Spain’s two-year recession ended in the third quarter when the economy grew 0.1 percent from the previous three months. The Bank of Spain said in its monthly economic bulletin last week that early data showed the improvement in the economy had carried on into the final part of 2013.

“If 2012 was the year of cutbacks, 2013 was the year of reforms and 2014 will be the year of the start of the economic recovery in our country,” Prime Minister Mariano Rajoy told a news conference in Madrid on Dec. 27.

Italy’s 10-year yield declined as much as four basis points to 3.93 percent, the lowest since May 22. The spread over bunds shrank to as little as 199 basis points, the least since July 2011. The difference was as narrow as 19 basis points during June 2007.

‘Very Compressed’

“We’re not going to go back to the very compressed yields in terms of spreads to the core countries that we saw prior to the crisis,” Bank of America’s Wraith said. “If you go back to pre-2008 these spreads were almost at zero, so we’re still a long way away.”

The reduction in Italy’s spread over German bunds shows the market recognizes the nation’s efforts to keep finances in order and push forward economic and institutional reforms, Finance Minister Fabrizio Saccomanni said. Ten-year yields below 4 percent will reduce the government’s interest payments, freeing up resources to invest and reduce the tax burden, he wrote in e-mailed statement today.

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

Portugal’s 10-year yield fell as much as 20 basis points to 5.64 percent, the lowest level since June 3.

Germany’s 10-year yield was little changed at 1.94 percent after rising to 1.97 percent yesterday, the most since Sept. 23.

‘Impressive Start’

Data yesterday showed manufacturing in Italy and Spain expanded more in December than economists forecast. An Italian gauge based a survey of purchasing managers climbed to 53.3 from 51.4 in November, while Spain’s was 50.8, beating a forecast of 49.8 in a Bloomberg News survey.

“Peripherals posted an impressive start into the year, aided by significant upside surprises in the Spanish and Italian manufacturing PMI,” Markus Koch and Peggy Jaeger, analysts at Commerzbank AG in Frankfurt, wrote in a note to clients. “The periphery rally looks set to extend near-term and we therefore stick to our bullish view.”

Commerzbank predicts the Italian and Spanish five-year yield premium over similar-maturity French notes will shrink, the analysts wrote.

Spain’s five-year yield has fallen 39 basis points this week to 2.42 percent, the biggest weekly slide since October 2012, while yields on similar-maturity Italian notes dropped 31 basis points to 2.50 percent. The rate on French securities due in November 2018 declined five basis points in the period to 1.20 percent.

‘Protect Performance’

“Towards the end of last year we had heard from several clients that they were looking to protect performance heading into year-end,” Lyn Graham-Taylor, a fixed-income strategist at Rabobank International in London, wrote in an e-mailed note. “With us now entering the new year, many of these same real-money type clients may have looked to establish overweight positions in peripherals.”

An overweight position refers to investors holding a bigger percentage of the debt than is contained in the indexes they use to measure performance.

Spanish bonds returned 11 percent in the past year through yesterday, according to Bloomberg World Bond Indexes. Italy’s earned 7 percent, while Germany’s lost 1.4 percent, the worst performer of 15 euro-area debt markets tracked by the indexes.

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