Bond Traders May Soon Fret More About Italian Debt Than Greece's

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(Bloomberg) -- For European investors, it may now be more risky to hold Italian bonds than Greek ones.

Capital Economics is forecasting that Greece’s 10-year debt, which was for most of this decade untouchable for many investors, will yield less than the equivalent Italian securities by the end of 2019 -- one indicator that they may become a safer asset to hold. That’s due to Italy’s ongoing budget spat with the European Union unnerving investors, combined with an improving fiscal outlook for Greece.

Bond Traders May Soon Fret More About Italian Debt Than Greece's

“Italy’s debt is less sustainable than that of Greece,” said Simona Gambarini, an economist at Capital Economics. “If growth in Italy deteriorates, concerns about its debt sustainability are likely to intensify, putting upward pressure on yields there, while those in Greece will probably be unaffected.”

Greece’s bonds have surged this year, pushing yields down to the lowest level on record, as diminishing returns on haven assets have pushed investors into riskier securities. But the rally was given an extra boost by last month’s European elections, which prompted Prime Minister Alexis Tsipras to call a snap election for July 7, opening the door to a more market-friendly government.

In contrast, Italy has missed out on the global bond rally. Renewed fears that its fiscal deficit will overshoot the EU’s 3% limit next year has kept the yield spread over Germany elevated since a major flareup in the autumn of 2018. Tensions between the two coalition partners -- Five Star Movement and the League -- have also threatened to bring down the government.

“Italian political risks are clearly larger at the moment, so the spreads can converge even more,” said Jan von Gerich, chief strategist for Nordea Bank, referring to yield difference between Italy and Greece.

Ten-year Greek bonds currently yield around 2.88%, about 28 basis points more than their Italian equivalents. Capital Economics forecasts that Greece’s will yield 25 basis points less than Italy by year-end. However, trading in the former remains scant, while Italy’s bond market is one of Europe’s most liquid.

©2019 Bloomberg L.P.

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