Bond markets look to ECB to stem yield blowout - again

ECB president Christine Lagarde said a week ago the central bank wasn't there to "close spreads", in other words, to tame bond market blowouts in riskier euro zone members. Mounting stress means she may have to do exactly that.
Wednesday's manic selloff showed as never before that strong words and action are required from the European Central Bank, beyond its offer last week of a temporary 120-billion addition to its asset purchase programme to counter the coronavirus-linked damage to the bloc's economy.
Spreads - the gap between bond yields of a member state and benchmark issuer Germany, a gauge of the risk premium states with weaker credit metrics have to pay to borrow - have ballooned in recent days. In Italy's cases they have burgeoned towards levels that may start to herald debt distress and even the risk of euro zone break up.
"I think we need another 'whatever it takes' moment," said Pictet Wealth Management strategist Frederik Ducrozet, referring to the pledge made by former ECB chief Mario Draghi during the bloc's 2012 crisis.
He said the ECB needed to tell markets how exactly it would deploy the additional 120 billion euros and especially whether it would skew bond buys to those members facing stress, or overlook the constraints imposed by its own rules for now.
"We need to know details. They could boost the number, they could issue a statement that there is no technical or legal obstacle to increase QE (quantitative easing)," he said, a reference to rules allowing the ECB to hold only third of each country's bonds. It is nearing that limit in markets such as Germany.
But more ECB action may not of course fix the issue - aggressive rate cuts and far greater bond-buying by the US Federal Reserve haven't calmed sentiment. US stocks have continued to fall sharply. Still, pressure on the ECB is mounting in tandem with
Italy's 10-year bond yield spread over Germany. That blew out to 320 basis points on Wednesday, before tightening after reports the Bank of Italy was buying Italian paper to restore order in markets..
Also shoring up sentiment was a report that euro zone officials are considering how to deploy the unused firepower of the bloc's bailout fund to limit the economic damage, via a scheme that could pave the way for more ECB purchases of Italian bonds. Still, Italy's bond spread over Germany is around 70 bps wider than it was a week ago.
The Spanish/German 10-year bond spread, close to its widest since 2016, is 50 bps wider. And the Portuguese/German spread, at around 160 bps, is near its widest since May 2018. That relentless widening reduces the efficacy of ECB monetary policy, analysts said.
ECB asset purchases so far have been key to holding down government borrowing costs and keep bond spreads over benchmark issuer Germany tight. Marchel Alexandrovich, European financial economist at Jefferies, urged the ECB to quantify what they would buy. Speculation the programme will be skewed towards corporate debt may have contributed to the government bond selloff.
"We get some weekly numbers on public sector purchases but a week is a long time in a crisis like this, they need to tell us what they are buying on a day and show us what flexibility they are using on the capital key to support markets that are struggling." ECB government bond purchases are done in sync with each euro member country's shareholding in the bank, known as the capital key.
But it has been flexible with this before - and policymakers have stressed that after Lagarde's comment last week that it was not the ECB's job to "close" spreads.
Financial conditions have materially changed since the ECB's meeting last week and further steps may be necessary to prop up the economy, Finnish central bank chief Olli Rehn said Wednesday.