Persistent bank worries lift Portuguese yields

Tue Jul 15, 2014 7:32am EDT

(Recasts with rise in Portuguese yields, fresh comments)

By Emelia Sithole-Matarise

LONDON, July 15 (Reuters) - Portuguese bond yields rose anew on Tuesday, as concern persisted over the exposure of Baco Espirito Santo, the country's largest listed bank, to the troubled companies of its founding family.

The bonds came under renewed pressure as shares in BES hit a record low of 0.3550 euros, with some equity traders citing worries that the founding family sold shares in the bank on Monday too cheaply.

The family sold a 5 percent stake in BES on Monday at 0.34 euros a share to inject new blood into the bank. A new chief executive was also brought in at the bank, as it tried to reassure investors that it was financially stable.

Portuguese 10-year yields rose as much as 7 basis points to 3.90 percent, lifting yields on fellow junk-rated Greek bonds in their wake.

"Clearly, the mood has not calmed down yet given the complex situation surrounding BES and its holding company. The sell-off in BES shares is putting Portuguese and Greek bonds under pressure," said Jean-Francois Robin, a strategist at Natixis.

Portuguese and Greek bonds underperformed other low-rated euro zone debt. Market participants said last week's contagion, when the losses spread to Italy and Spain, appeared to be over. It was the first episode of such weakness this year.

Market action suggested that investors were differentiating between junk-rated Portuguese and Greek bonds and the more liquid and investment-grade Italian, Spanish and Irish debt.

Spanish 10-year yields were 4 bps down at 2.74 percent. The Italian equivalents were 2 bps lower at 2.86 percent.

"The sell-off of a few days ago is an opportunity to come in and do some bottom-picking," said Ciaran O'Hagan, a strategist at Societe Generale.

"The problems in Portugal are a storm in a tea-cup. They relate to a holding company, not the bank, so there's no systemic risk and there's no hit to the public purse."

IDIOSYNCRATIC RISK

Dovish comments from European Central Bank President Mario Draghi overnight underpinned demand for most euro zone bonds.

Draghi said late on Monday that policymakers were prepared to use unconventional measures to address the risk of too prolonged a period of too-low inflation. Quantitative easing, or money printing to buy assets, was part of the bank's mandate, he said. He also said a stronger euro exchange rate was a risk to the sustainability of the euro zone recovery.

The ECB's ultra-easy monetary policy and the possibility it might eventually begin an asset-buying programme - quantitative easing - to support the region's feeble economic growth has fueled a relentless hunt for yield in peripheral bond markets.

"With the ECB signalling that it will continue to maintain an easing bias with the possibility of QE in coming months, peripheral spreads probably have scope to come further in," said Nick Stamenkovic, a bond strategist at RIA Capital Markets.

"We prefer Italy and Spain to Portugal at this juncture .... This idiosyncratic risk (in Portugal) has raised concerns that there could be further problems coming in the future. Spain by contrast is much further forward in bank recapitalisation while Italy is making progress."

German 10-year yields, the benchmark for euro zone borrowing costs, were 2 basis point down at 1.19 percent as data showed Germany's ZEW analyst and investor sentiment index fell for a seventh consecutive month in July. (Editing by Larry King)

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