Spain Rating-Upgrade Trade Tinged by Rebellion in Catalonia

  • S&P has positive outlook for Spain rating on economic recovery
  • Decision coincides with separatists’ independence referendum

Barcelona Braces for Protests Before Referendum Vote

Spanish bond traders have had their eyes fixed on Sept. 29 for a possible bullish trade, but their vision is getting clouded by politics.

S&P Global Ratings has an economic case to raise its grade that day when it publishes an analysis of the nation’s 1.1 trillion-euro ($1.3 trillion) debt. But the argument may be spoiled. Two days later, separatists in Catalonia, Spain’s largest regional economy, have planned an illegal vote on independence.

That may postpone good news for Spain, whose police are raiding Catalan offices and arresting officials of the regional government.

“We don’t expect a rating upgrade yet,” Michael Leister, the head of rates strategy at Commerzbank AG in Frankfurt, said in an interview. “Even though the economic fundamentals are there and the recovery remains strong, the Catalan uncertainty appears to be more relevant than what was initially expected.”

The central government in Madrid is trying to quash the Catalan vote using police, judicial investigations and the threat of jail time for organizers on the basis that it violates the nation’s constitution. Tensions have risen this week as the central government held Catalan officials for questioning and froze regional funding in a bid to prevent the vote.

Spain is currently rated BBB+ by S&P with a positive outlook. A single notch higher to A- would take it to the highest rating since 2012, when the country was in the midst of its worst economic crisis in modern history. Natwest Markets strategists assigned a two-thirds probability that S&P will upgrade Spain, potentially attracting new investors, with the Catalan referendum being the main obstacle, in a Sept. 15 note.

The yield spread between Spanish 10-year bonds and comparable German bunds is only about four basis points above its one-month closing low. It’s still wider than the level on July 21, when Fitch Ratings raised its outlook to positive. Traders are preparing for Spanish bonds to outperform should S&P raise its rating.

“The move would trigger a significant market reaction,” said Jaime Costero, interest-rate strategist at Banco Bilbao Vizcaya Argentaria in Madrid. “In case of an upgrade, we see a lasting impact on Spain’s spread versus bunds of 20 basis points.”

The spread is currently hovering at around 114 basis points, where resistance levels to narrowing remains strong, according to Costero. An upgrade could take those levels to 80-90 basis points in the absence of a risk event, he said.

Earlier this week, Economy Minister Luis de Guindos said the Spanish government expects all major agencies to improve their rating on Spain in the near future, arguing that markets will look through Catalan risks and focus on the fundamentals as the nation extends an economic recovery now running into its fourth year.

S&P raised its outlook on Spain to positive from stable in March, hinting at a possible upgrade if the economic recovery were to continue and budget consolidation remained on track. At the time, it predicted growth of 2.5 percent this year. Since then, the International Monetary Fund and the Bank of Spain, among others, have forecast expansion of at least 3 percent.

— With assistance by Stephen Spratt

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