Greek and Irish bond yields rose on Friday and were set to climb further on growing speculation Athens will eventually need to restructure its debt and after Moody's downgraded Ireland to just above junk status. Spanish bonds also underperformed at the 10-year maturity as investors booked profits from a rally through March ahead of a bond auction next week.
-- Spanish 10-year bonds underperform ahead of auction
-- Greek bonds stay pressured by restructuring fears
-- Bunds struggle to gain traction from periphery woes
With its bailout request "(giving) some clarity over Portugal, investors are looking at who's next and seem to have gone back 12 months to look at Greece," said WestLB rate strategist Michael Leister. "We'll probably see further pressure into next week with Spain selling 10-year bonds and the market trying to squeeze out a liquidity premium."
Rising Greek yields reflected disappointment that the government only presented the outline of fresh fiscal plans but left the details to be spelled out after Easter. Greek 2-year bonds had an indicative bid price of 77.6 and yields topped 18.5 percent with 5-year bonds at 65.5 and new highs in yields above 18 percent.
The Irish/German 5-year yield spread was 16 basis points wider at 720 bps, while the Spanish 10-year spread over Bunds was 7 bps wider at 197 bps. Adding to the worsening sentiment, Moody's downgraded Ireland two notches to Baa3 - two notches below Standard & Poor's BBB+ and its lowest investment grade rating - and kept the outlook negative.
Traders said fund managers were still holding Irish paper, both those benchmarked to an index and some absolute return funds although a further downgrade to junk would trigger forced selling from the former. Sanjay Joshi, head of fixed income at London and Capital, where there are $3.5 billion of assets under management, said their absolute return fund sold all its peripheral debt - sovereigns, financials and corporate bonds - 18 months ago. "It's not that we believe they will all default or need to restructure but rather that the volatility is too high."
In order to be able to reinvest, Joshi said he would need to see a clear European plan for dealing with issues that could arise in future and credible 7-10 year fiscal plans from individual countries that allow for economic growth. "Spain may be something we could look at a bit earlier than the others but with Greece and Ireland the volatility makes it extremely difficult."
June Bund futures were 2 ticks lower at 120.67. Two-year German bond yields were up 2 bps at 1.889 percent, with 10-year yields little changed at 3.43 percent after posting lower closing levels for the last three sessions since failing to break above 3.5 percent on Monday.
German bonds pared gains, with the flattening of the yield curve led by the short end after inflation in the euro zone rose more than expected in March to 2.7 percent year-on-year, keeping pressure on the ECB to tighten policy. Recent Bund underperformance has compressed the 10-year spread between German bonds and Treasuries to its lowest since late 2009 at around 0.2 basis points. "Bunds are looking cheap on a cross-market basis," said a trader.
Greek two-year yields are up almost 2 percentage points on the week and Portuguese yields have also hit new highs. "In order to reduce Greece's debt burden to the Maastricht treaty limit of debt to GDP of 60 percent the bonds would have to take a haircut of some 62 percent," said Gary Jenkins, head of fixed income at Evolution Securities.
That is in line with comments from Moritz Kraemer, head of sovereign ratings at Standard & Poor's, who said on Thursday a haircut of 50-70 percent might be necessary. Longer-dated Greek bonds are currently fully pricing in a 50 percent haircut in coupons and principal payments, said ING rate strategist Alessandro Giansanti, suggesting that yields can still rise further.
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