Robeco: Peripheral Europe Update, week 27

Main market events

Peripheral spread tightened sharply this week, with Italian bonds being the star performers. The prospect of ECB easing, nomination of IMF head Lagarde as successor to ECB President Draghi, and the decision by the EU that an Excessive Deficit Procedure (EDP) is no longer warranted for Italy generated another new wave of “search for yield” by investors. Italian bonds have returned 8.3% year-to-date, Spanish bonds 9.9%, Portuguese bonds 9.7% and Irish bonds 7.4%.

Italy

The 10yr BTP-Bund spread tightened massively and broke below 200bp for the first time since May 2018. The news on the EDP cleared away some near-term concerns, including those about a possible government collapse, opening the way for prospective ECB easing to get discounted into BTPs. Fundamentally, Italy is not out of the woods yet. The manufacturing sector fell further into contraction territory in June, according to a purchasing managers survey. Moreover, the budget outlook for 2020 remains challenging to say the least given the government’s aversion to implement a planned VAT hike and Deputy PM Salvini’s desire for tax cuts.

Spain

Activity in the manufacturing sector  took a sharp turn for the worse in June, according to the purchasing managers survey. But growth in the Spanish service sector is still holding up very well. Meanwhile, the country has not yet formed a new government. Spain's new parliament will vote on whether to grant socialist leader Sanchez a second term as prime minister on July 23.

ECB

IMF head Lagarde has been nominated to replace Draghi in October. Markets perceived this as a dovish development, also because it removed the risk the choice of the hawkish Bundesbank president Weidmann could have posed. Lagarde has been supportive of the ECB’s unconventional policies while at the IMF. At the end of the week especially Spanish and Portuguese bonds gave back some return after a news story suggested an ECB decision on QE2 was not imminent and there were differences of opinion on other potential easing measures.

Robeco Euro Government Bonds

The fund slightly increased its exposure to peripheral bonds by adding both to Italy and Spain. Positioning is predominantly located in the ultralong end of the curve. The fund still has an underweight in short-dated Spanish government bonds an does not own any Portuguese bonds, as we think valuation has become stretched in these segments. As a percentage of market value, investments in peripheral bonds are at 35%, which is 6% below the level of the index. Year to date the absolute return of the fund is 7.66%*.

* Robeco Euro Government Bonds, gross of fees, based on Net Asset Value, 4 July, 2019. The value of your investments may fluctuate. Past results are no guarantee of future performance.

Den gesamten Peripheral Europe Update, week 27 können Siesich hier auch im PDF-Format downloaden.