Italy 3-year debt costs drop at solid sale

Italy raised the top planned amount at a bond sale on Wednesday, paying the lowest three-year yield since October 2010 thanks to sustained demand from investors awash with European Central Bank cash and upbeat market sentiment. The auction’s results boosted Italian bonds on the secondary market, pushing the premium that Italian 10-year bonds pay over equivalent German Bunds down slightly to 295 basis points, from 300 basis points just ahead of the auction. Italy is seen continuing to outperform for now fellow eurozone member Spain after Madrid unnerved investors by unveiling a larger-than-expected deficit of 8.5 per cent for 2011 and agreed with the European Union to cut it to 5.3 per cent this year -up from a previous 4.4 per cent target. The Italian sale hit the market at a favourable moment with risk assets rallying after the US Federal Reserve upgraded its outlook for the world’s largest economy and said most US banks had passed stress tests. “Very good. Full amount sold, yield levels well below last time, cover solid,” said Marc Ostwald, a strategist at Monument Securities in London. “To be selling particularly the three-year at the lowest level since 2010 ... it just shows how the ECB’s liquidity flood has helped to alleviate a lot of the tensions for the time being.” Italy sold five billion euros of a new three-year bond due in March 2015 at an average 2.8 per cent yield. In mid-February it had paid 3.4 per cent on this maturity. The bid-to-cover also improved from a month ago to 1.6 from 1.4 times, despite the larger amount sold on Wednesday. It also sold 1 billion euros of an off-the-run 2019 bond. In a sign of easing market pressure on the euro zone’s third-largest economy, the coupon the new issue is 2.5 per cent. That compares to a 6 per cent coupon a three-year BTP bond Italy launched in late November, when it came close to following Greece, Ireland and Portugal into a scramble for emergency aid that could have become prohibitively expensive for Europe. At the time Italy had to pay a record 7.9 per cent yield to sell the first tranche of the bond. The ECB’s decision to provide banks with unlimited three-year funds and the appointment of a reform-oriented government in Rome have helped buttress market confidence. Many analysts expect the rally in Italian bonds to continue in the short term, albeit at a more moderate pace. Challenges Italy’s 2011 budget deficit was less than half that of Spain and the country posted a 1 per cent surplus when excluding interest payments on its burdensome 1.9 trillion euro debt. Italian government debt now trades at a smaller premium to Germany than does Spain, reversing a trend which had seen Italian yields exceed Spanish ones by as much as two per centage points in late 2011. Looking ahead, however, “the fundamental challenges facing Italy and Spain are well documented and are unlikely to move far out of the spotlight,” analysts at Citi wrote in a note. “The longer term macro risks are likely to continue to deter non-domestic investors from engaging in a meaningful way.” With an economy in recession and a central bank’s forecast for an up to 1.5 per cent contraction in output this year, Italy does not offer a reassuring picture to investors looking at where to put their money in the longer term.