July 19, 2018 / 8:34 AM / 10 months ago

Spain, France prep debt sales in "expensive" euro zone bond market

* Spanish/French auctions to raise up to 12.5 bln euros combined

* Spreads over Germany close to tightest level in weeks

* Italian yields drop, reversing Wednesday’s losses

* Euro zone periphery govt bond yields tmsnrt.rs/2ii2Bqr

By Abhinav Ramnarayan

LONDON, July 19 (Reuters) - Two of the euro zone’s largest sellers of bonds are preparing debt sales at a time when their borrowing costs are close to their lowest in weeks relative to benchmark German Bunds.

Euro zone bond yields rose a touch across the board on Thursday as investors made space for Spanish and French bond auctions that could raise up to 12.5 billion euros combined.

Investors have bought up this debt in recent weeks — particularly that of France — as uncertainty over global growth fuelled the need for safe haven assets that offer a bit more yield than German Bunds.

But the deals should demonstrate just how strong that appetite for euro zone government debt is and if investors are willing to pay the sort of tight premiums on offer.

“For both France and Spain, the curves are quite flat and the spreads are very tight, maybe it’s convenient that France is targeting the short because the long end looks quite expensive now,” said ING strategist Benjamin Schroeder.

“Generally speaking, the debt of both countries looks a bit expensive though we haven’t fully recovered from the Italy sell off.”

France is selling three-year and five-year debt while Spain is set to sell five-, eight-, 10- and 15-year debt.

In recent weeks, persistently low German yields on the back of trade war fears have pushed investors into slightly lower-rated but higher yielding debt of countries like France and Belgium; pushing their borrowing costs to their lowest all year.

France’s 10-year bond yield spread over Germany is, at 28.75 basis points, only a shade off its tightest level in eight weeks.

Meanwhile, the Spain/Germany 10-year bond yield gap hit its tightest level in 3-1/2 weeks on Tuesday at 90.5 bps and has only eased to 94 bps ahead of today’s auction.

At that level, the spread is still far tighter than the 144 bps peak in late May; though the rationale for buying this debt may be slightly different than in the case of France.

“With Spain, people are just thinking about getting the carry over the summer, with most of the big events gone; during the Italian budget (talks) in the autumn you might see some spread widening, until then you take the carry,” said Schroeder of ING. He was referring to a trading strategy where investors take advantage of low funding costs to invest in higher-yielding assets.

Elsewhere, Italian government bonds picked up a bit of a bid on Thursday, with two-year yields dropping as much as seven bps to 0.55 percent while 10-year yields dropped 2.5 bps to 2.49 percent, reversing Wednesday’s losses.

Analysts attributed this to the carry trade as well, ahead of the summer break, particularly with European Central Bank policymakers entering the silent period ahead of next week’s meeting, thereby removing one element of uncertainty. (Reporting by Abhinav Ramnarayan, Editing by William Maclean)

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