Italian Bonds Seen Pressured as Focus Turns to Peripheral Woes

  • Italian-German 10-year yield spread at widest in two months
  • GDP data could signal if ECB's QE is working: Cantor's Callan

Government bonds from the euro region’s so-called peripheral nations may further underperform German securities with a banking crisis in Italy and political gridlock in Spain far from being resolved.

While euro-area sovereign bonds are supported by the European Central Bank’s 80 billion euros ($91 billion) a month asset-purchase program, domestic solvency worries are back in focus. Even as Italian 10-year bonds were little changed this week, the yield spread versus similar-maturity German debt widened to the most in more than two months Friday as Italy’s troubled banking sector threatened to hurt its still weak economy.

The gap between Spanish and German 10-year bond yields widened to the most in a month as Spain heads to its second election in six months after missing a deadline to form a government in May. Falling oil prices and faltering equity markets this week prompted investors to seek the relative safety of German debt, the region’s benchmark sovereign securities.

“We now have the Spanish general election back on the table,” said Owen Callan, a Dublin-based fixed-income strategist at Cantor Fitzgerald LP. “So political risk in the peripherals will start to become an issue again. We still have issues around the Italian banking sector in the background. That’s going to bring a bit of volatility into the peripheral bonds.”

Spread Widens

Italy’s 10-year bond yields were at 1.49 percent as of the 5 p.m. close Friday in London. The price of the 2 percent security due in December 2025 was 104.54 percent of face value. The yield on German 10-year bunds fell 13 basis points, or 0.13 percentage point, in the week to 0.14 percent, its biggest decline since Jan. 29.

That left the yield spread between the securities at 1.35 percentage points, after reaching 1.37 percentage points, the most since Feb. 26. The gap between Spanish and German 10-year yields was at 1.45 percentage point, having earlier touched 1.47 percentage points, its highest since April 11.

Cantor Fitzgerald’s Callan said gross domestic product data due on May 13 may offer signs of a sustained recovery.

The region’s economy expanded 0.6 percent in the first quarter, according to the median forecast of analysts in a Bloomberg survey.

Growth data “tells you what’s happening in the real economy,” Callan said. “If we do have a more positive outlook, maybe that suggests the ECB’s measures are working. You could say that should embolden them to continue to go further with it.”

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