* Zero deposit rate forces investors to seek yield elsewhere
* T-bills benefit, core yields to converge around Germany
* Benefit to Spain, Italy bill market seen strictly limited
By William James
LONDON, July 17 (Reuters) - Demand for euro zone treasury bills has surged since the ECB cut its deposit rate to zero last week as buyers who focus on short term debt look to secure what little yield remains by moving into longer-term and lower-rated investments.
Belgium, whose highest credit rating is AA, on Tuesday became the latest euro zone sovereign to sell short-term debt at a negative yield, issuing three-month bills at a yield of minus 0.16 percent.
Triple-A rated France, Germany and the Netherlands have all sold T-bills at negative yields in the past week, as has the euro zone’s EFSF temporary rescue fund, which is backed by state guarantees.
Investor appetite for low-risk assets is already at an all-time high with dwindling confidence in the euro zone’s ability to haul itself away from the brink of break-up and the global economy struggling to grow.
But analysts said last week’s European Central Bank cut in the rate it pays on overnight deposits to zero had triggered a new spike in demand.
The knock-on effect has seen overnight rates fall, pushing some of the most secure banks to offer a negative yield on certificates of deposit, which are widely used by the most risk-averse asset managers such as central banks and money market funds.
“Banks are now charging for the privilege of placing money with them... which is pushing many investors to seek alternative areas in which to effectively park their money,” said Richard McGuire, strategist at Rabobank in London.
The resultant boom in demand for yield was causing convergence in rates on treasury bills - debt with a maturity of less than two years - among the region’s highest rated issuers.
Germany issued six-month bills last week at an average yield of minus 0.034 percent, while on July 16 France sold 23-week bills at a cost of minus 0.005 percent - a difference of around 3 bps. At similar sales a month earlier the gap between the two auction yields was 12.5 bps.
“To me, this is investors saying ‘I’m actually getting capital destruction in the safest assets, so I’m going to move out along the credit curve and the term structure a little’,” said Thushka Maharaj, a vice president in the Credit Suisse European interest rate strategy team
“”We are still expecting convergence between French and Netherlands T-bills towards the German yield, in the front end the spread is about 20 basis points so there’s still room there.”
The search for higher yielding assets has also pushed down the cost of short-term borrowing for the likes of Spain and Italy - both on the frontline of the region’s debt crisis.
Spain on Tuesday sold 12 and 18-month bills at around a percentage point lower cost than last month. However, analysts said the 3.92 percent and 5.07 percent yields were still too high to say markets believed the country’s finances were on a sustainable path.
Strict rules governing the quality of investments that money market funds can invest in prevent many from straying into peripheral debt, limiting the capacity for further spillover from the ECB cut.