Bond issues in Spain and Italy raise fears
With agreement reached on Greece, bankers inspect other debts
At €86 billion (R1.16 trillion), Greece’s latest bailout package is less than 10 percent of the sum Italy and Spain need to borrow on markets before the end of 2017. The euro zone’s debt problems are far from over.
With Athens offered a temporary solution, sovereign debt bankers are turning their focus to the scale of the refinancing needs in some of bloc’s other indebted states as the interest rate cycle turns and the crutch of central bank bond-buying is set to be whipped away in just over a year.
No one is predicting investors will shun the likes of Spain and Italy, as they have with Greece. But the risk is that they demand a higher rate of interest at a time when both countries are struggling to get their debts back on a sustainable path.
Some investors even see a situation where borrowing costs and the economic recovery in the bloc becomes so lop-sided that the European Central Bank has to extend its quantitative easing (QE) scheme beyond its scheduled September 2016 expiry.
“Debt-to-GDP reduction and structural reforms may not have happened quickly enough in countries such as Italy while the rest of the euro zone is progressing pretty well,” said Neil Murray, head of pan-European fixed income at Aberdeen Asset Management.
“In which case, we will need more QE programmes.”
In Italy, where data showed public debt at a new record high of €2.2 trillion this week, the government has to refinance €635 trillion of bonds by the end of 2017, a third of its outstanding debt.
Spain has to roll over €351 billion in the same period, also around a third of its debts.
Investor appetite for this debt has up until now been helped by a series of monetary easing measures which sent 10- year borrowing costs to record lows of around one percent in March.
But even with QE in full flow, yields have climbed some 100 basis points in the past few months – a trend that is worrying the bankers that arrange bond sales for these sovereigns.
“It’s a market where the gross amount of issuance is massively more than it has been in the past and rates are rising,” said one banker on condition of anonymity.
“We have been in this virtuous cycle and it is coming to an end.”
Via bond swaps and issuance of longerdated debt, Spain and Italy have used this cheap borrowing to extend the average maturity of their debt and ease future pile-ups.
This has marginally reduced governments’ overall cost of debt servicing, but not enough to stabilise national debts.
In order for a country to do that, the sum of growth and inflation rates must equal the debt-servicing cost as a percent- age of gross domestic product unless the country can run a budget surplus before interest payments to cover it.
Forecasts from the OECD, show that by the end of this year, the debt ratios of both countries will still be rising.
This is important because investors will start to once again pay closer attention to economic fundamentals and demand a higher risk premium from those countries that have not been able to get their houses in order.