There has been a real resurgence in the market for European sovereign debt, especially the debt of some of the “periphery” countries that have gone through financial bailouts over the past four years.
The most current evidence of this resurgence occurred this week. Ireland, which accepted an international bailout in 2010, issued €3.75 billion ($5.1 billion) in 10-year bonds this week at a yield of 3.543 percent. Investors placed more than €14 billion of orders for the issue.
This investor enthusiasm spilled over into other areas of the bond market where yields on the government bonds of other “healing” countries benefited as well.
This is a continuation of the movement of funds back into the European sphere, especially from the United States where, as I have written several times before, risk-averse monies had previously fled to escape the financial difficulties experienced on the continent.
This auction is further evidence of the continuing increase in the confidence of investors that the governments of Europe are moving in the right direction to get the fiscal woes of the European union under control and actually produce the economic reforms necessary to work in the modern global economy. It also, in my mind, supports the view that the leadership of Germany has provided the foundation for the improving financial condition of EU member states.
This increased confidence is especially nice for investors that are also searching for higher yields on their investments. This search of yield is an additional reason for the flow of funds into these bonds.
In world markets, German bunds have consistently been one of the lower yielding issues, even lower that that reached by United States Treasury bonds.
For example, 10-year German governments were yielding around 1.90 percent this week. Six months ago in July 2013, these same bonds were yielding around 1.70 percent. In late January 2013 they also were around the same level. These German bonds basically set the benchmark for all other rates on European sovereign debt.
Ireland, on the other hand, faced a yield on their 10-year bonds of about 4.00 about six months ago, about 230 basis points higher than the yield on the same maturity German securities. In January 2013, Irish bonds yielded around 4.30 percent, 260 basis points above the German rate.
In early September 2012, the Irish bonds yielded 5.30 percent and in the summer of 2011 they traded to yield around 14.00 percent.
But, this rising confidence level also impacted other “peripheral” nations. Spanish bonds, with a 10-year maturity that now yield around 3.90 percent, yielded somewhere around 4.90 percent six months ago and yielded around 5.3 percent one year ago.
Portuguese 10-year bonds now yield around 5.40 percent, the lowest level since November 2010. Six months ago, the yield was over 7.00 percent.
Greece 10-year bonds now yield around 7.90 percent. Six months ago they yielded 10.40 percent.
In almost all cases, the yields on European sovereign issues are trading closer to the yield on German bunds than the have for quite a few years.
Officials in the European Union continue to work to build a stronger banking union for the area and there are efforts to develop some kind of unified budgeting process for the nations that are a part of the EU. The latter effort still has a ways to go…but, the movement is in the direction of a greater fiscal union. Again, Germany, the country in the strongest fiscal position in Europe, is exerting its influence to create a “sound,” unified fiscal association that will enhance the strength of Europe. The financial markets have expressed a rising confidence in the possibility that this objective will be attained…even if it is still several years away.
Is investing in these securities of the “periphery” risky?
Of course it is. But, the international financial community is endorsing the improvement in the fiscal health of these countries. Ireland exited the international bailout program last month. Portugal is expected to exit the bailout program later this year. And, Greece is moving in that direction.
The cloud on the horizon concerning the continued improvement in the budgetary situations in these countries is the weakness of the economy in Europe. Obviously, a very weak economy would hurt the ability of these countries to improve tax revenues and hence hinder continued fiscal balance. Yet, Ireland and the other countries have weathered through the weak economic environment of the last year or so and have shown real strength in maintaining their efforts to righter their budgetary situations. The international bailout programs would not be lifted if this were not the case.
The other “safety net” to the health of these governments and the health of the financial markets is the backing of the European Central Bank. The ECB has basically said that it will do anything necessary to ensure that the banking system and the governments will continue to become stronger and to grow out of the economic malaise the continent seems to be going through.
So, here is another possibility for investors to get increased yields within the context of an apparently improving economic situation. In addition, it is sovereign debt. It might also be a situation in which there would be some downside protection against falling bond prices this year…not falling bond yields…a situation quite different from the one expected to exist in US Treasury securities this year.
About John Mason
John has been the President and CEO of two publicly traded financial institutions and an Executive Vice President and CFO of a third. He has also spent time as an economist in the Federal Reserve System and worked for a cabinet secretary in Washington, D. C. In addition John taught in the Finance Department at the Wharton School of the University of Pennsylvania for ten years. He now currently has a column on the blog Seeking Alpha and is ranked number 3 in terms of readers on the economy. From this column, two books have been published this past year from earlier blog posts. John is active in the shadow banking world, the venture capital space, and in angel investing. Other than that John works with start ups and early stage organizations, for profit and not-for-profit.