Nervy markets put 23% haircut on Italian bonds
WITH Dexia becoming the first mainland European bank to be bailed out since 2008, the crisis on the eurozone periphery has now spread to the centre. Meanwhile, the fortunes of the major peripheral eurozone countries have begun to diverge widely with the markets now taking a far more optimistic view of Spain's prospects than those of Italy.
Spanish bond yields are now significantly lower than those on Italian bonds with the yield on Spanish 10-year bonds hovering at 5.1 per cent, as against the yield of almost 5.5 per cent on 10-year Italian bonds.
However, with the ECB buying both Spanish and Italian bonds on the secondary markets, relative bond yields aren't the best way of gauging market sentiment. Credit default swaps, the financial instruments used by bondholders to insure against the risk of default, almost certainly provide a more accurate indication of what's really happening.
This week it was costing 468 basis points (4.68 per cent) a year to insure Italian government bonds against the risk of default as against 378 basis points (3.78 per cent) for Spanish bonds. What this means is that the markets are pricing in a 23.4 per cent "haircut" on Italian bonds sometime over the next five years, as against an 18.9 per cent writedown on Spanish bonds.
With November's Spanish general election expected to return a conservative government, the bond markets have more faith in Spain than in Italy to sort out its problems.
Sunday Indo Business