LONDON, June 28 (Reuters) - Italy could end the year as the top performer among euro zone bonds as funding pressures ease in the coming six months, toppling peer Spain which it trailed in the returns table in the just-ended quarter.
While returns on Irish bonds were the best in the euro zone over the first half of the year overall, it trailed better-rated peers Spain and Italy in the second quarter as Rome settled a political stalemate in April when it set up a new coalition.
Graphics published by Reuters on Friday showed year-to-date returns on Irish bonds across all maturities at 5.4 percent, the highest of any sovereign included in Markit’s iBoxx EUR benchmark index, one of the most tracked indexes by bond investors worldwide.
Spansh bonds were a close second at 5.1 percent while Italian debt lagged with a return of just 1.8 percent .
The second quarter paints a different picture with returns on Italian bonds at 1.89 percent, the second highest after Spain which returned 2.37 percent. Ireland slipped to third place with returns of 1.15 percent as most investors saw its outperformance as having been overdone considered it has yet to exit its bailout and fully regain access to capital markets.
“The market is discounting a lot of positives with regard to the Irish story so I think there’s more room for the likes of Italy to outperform going forward,” said Padhraic Garvey, head of investment grade debt strategy at ING in Amsterdam.
“Italy has gone through a few problematic periods politics- wise .... but going forward I prefer Italy over Spain because fundamentally Italy is a better credit. It runs a primary surplus and has low private sector leverage.”
Italy’s second quarter returns compare with a drop of 2.3 percent in the same quarter last year before European Central Bank President Mario Draghi’s vow to do whatever it takes to save the euro eased tensions in the debt market and spurred a hunt for yield.
Although investors’ appetite for higher returns has been curtailed by the U.S. Federal Reserve’s plans to reduce monetary stimulus later this year, Italian and Spanish bonds are still seeing firm demand albeit at higher borrowing costs.
Italy has so far met 75 percent of its 2013 funding target of 186 billion euros of bonds while Spain has raised about 58 percent of a 121 billion euro target.
“I‘m a little bit more favourable for Italy versus other peripherals and especially Spain,” BNP Paribas strategist Patrick Jacq said. “Net supply by the end of the year will be negative for Italy while it will remain positive in Spain so clearly this is offering BTPs more support.”
Jacq expects the Spanish yield spread over Italy to expand to 35-40 basis points from the current 10 bps in coming months.
A drop in returns in euro zone bonds is expected in the second half at the Fed scales back its bond purchases, Italian and Spanish bonds are still seen outperforming higher-rated German debt.
Italian, Spanish and Irish debt’s performance this year contrasts with the 1.51 percent fall in return seen on German bonds, viewed as the euro zone’s safest asset.