European Gauge of Bond-Market Stress Approaches Highest in 2016

  • Italy-Germany 10-year yield spread widens to most since June
  • Event risks seen boosting demand for safest assets: CA’s Kumar

A measure of euro-area bond-market stress is flashing red.

The yield difference between German and Italian 10-year bonds approached the widest in 2016 this week as investors sought the region’s safest assets. As two of the euro-zone’s most-liquid sovereign-debt markets, speculating on the so-called yield spread may be the best channel for investors to express their view with the U.S. presidential election next week and Italy’s constitutional referendum looming in December.

Italian bonds underperformed this week as polls signaled the referendum scheduled for Dec. 4 may be rejected by voters, an outcome that may destabilize the government. With just days to go until the U.S. presidential election on Nov. 8, polls suggested the race to the White House has narrowed.

“We would focus on those two, going long on German bunds and short Italian bonds,” said Mohit Kumar, the London-based head of rates strategy at Credit Agricole SA’s corporate and investment-banking unit. “There are a number of event risks on horizon -- the U.S. presidential elections and then the referendum in Italy” which will boost demand for the safest assets, he said. A long position is a bet an asset’s price will rise.

Benchmark German 10-year bund yields dropped three basis points, or 0.03 percentage point, this week to 0.135 percent as of the 5 p.m. London close Friday. The zero percent security due August rose 0.314, or 3.14 euros per 1,000-euro ($1,112) face amount, to 98.692.

The yield on similar-maturity Italian bonds climbed 17 basis points to 1.75 percent, leaving the spread between the securities at 1.62 percentage point. It reached 1.625 percentage point on June 27, the widest on a closing-price basis since July 2015.

Still, that’s a fraction of the 5.53 percentage-point gap reached in November 2011 at the height of the region’s debt crisis.

Latest Polls

The latest poll on Italy’s constitutional referendum Friday showed 39 percent of voters would reject the reform, with 38 percent saying they would vote “Yes,” according to Ixe institute poll for Agora-Rai3 television program.

A Washington Post/ABC News tracking poll also released Friday showed Democrat candidate Hillary Clinton holding on to a slim lead over Republican Donald Trump, ahead 47 percent to 44 percent.

“If this nervousness continues we could see further widening in spreads and the election results will decide where we go from here,” said Arne Lohmann Rasmussen, head of fixed-income research at Danske Bank A/S in Copenhagen. A Trump victory would be “supportive for German bunds, while peripheral bonds would be seen as risky bonds and they would sell off.”

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