ECB bond buying eases tensions

BOND MARKETS:BORROWING COSTS for Spain and Italy fell for the third consecutive day yesterday as the ECB's bond-buying programme eased tensions in the European sovereign debt market.

Spain’s 10-year yield touched its lowest level since December, while Italy’s fell to a one-month low as the ECB purchased both countries’ debt.

The yield on 10-year Italian bonds reached lows of 5.08 per cent yesterday, before rising slightly, while the yield on 10-year Spanish debt dropped eight basis points to 5.08 per cent, after being as low as 4.98 per cent.

The first US bond sale since the downgrade of its credit rating took place yesterday. There was better-than-expected demand in the sale of $32 billion (€22.46 billion) in three-year securities, which drew a yield of 0.5 per cent – the lowest since records began in May 1981.

The auction, which took place ahead of yesterday’s US Federal Reserve meeting, attracted a bid-to-cover ratio of 3.29 compared with an average of 3.15 for the past 10 sales, indicating strong demand.

Separately, European banks yesterday made bids for emergency six-month loans from the ECB.

The ECB announced last week that it would commence the six-month liquidity operation for the first time since May last year, when Greece’s first bailout programme was announced.

The funds are due to be allotted today and the take-up will be closely watched by banking analysts in light of increased signs of stress in the European bank funding market in recent days.

Yesterday’s bond-buying by the ECB of Italian and Spanish bonds was described by traders as “reasonably aggressive” but not quite as extensive as Monday’s activity.

While the ECB has committed to buying the debt of Italy and Spain as a temporary measure, most analysts were focused on how long the ECB’s intervention in the bond market would continue.

Analysts at Daiwa Capital Markets in London said they expected the ECB intervention to last until the end of September when the euro area’s bailout fund, the European Financial Stability Facility, is ready to take over. They estimated that the ECB would try to stabilise the 10-year yield for Italy and Spain at about 5 per cent, which may involve the ECB purchasing between €1 billion and €2 billion of Italian and Spanish bonds a day after this week.

The ECB is due to announce next Monday how much it has purchased in Italian and Spanish debt this week.

It may have spent more than €10 billion yesterday, with purchases “heavily concentrated” in Italian securities, according to Ciarán O’Hagan, head of European interest-rate strategy at Société Générale in Paris.

Padhraic Garvey, head of debt strategy at ING in Amsterdam, said rising yields on French sovereign debt was also a concern on the bond markets, adding that rating agencies had in the past reacted to price action in making rating decisions.

“The fact that France is now 90 basis points higher than Germany is worrying. It’s a significant spread for an AAA issuer.”

Standard Poor’s, which downgraded the US government’s long-term credit rating last Friday, has indicated that France and Britain’s AAA credit rating is secure.

The yield on two-year Irish bonds dropped approximately 13 percentage points to 10.76 per cent yesterday, since peaking on July 19th at 23.5 per cent.

The yield on Portuguese two-year notes was 11.85 per cent yesterday, down from highs of 20.42 per cent last month.

Italy is due to offer as much as €6.5 billion in 366-day securities in an auction today, a move that will be closely watched by analysts. – (Additional reporting: Bloomberg)