Peripheral spreads widened the past week impacted by deteriorating broader risk sentiment in the wake of the latest developments in the US-China trade talks and specifically in Italy after the release of the EC spring economic forecasts.
13.05.2019 | 08:46 Uhr
Tuesday the EC, in its updated Spring Forecast, revised Italian GDP growth downwards from 0.9% to 0.1% for 2019 and estimated the 2020 budget deficit at 3.5% of GDP. Economic unease regarding Italy was also highlighted by the services PMI, which declined significantly in April and offset gains seen in manufacturing confidence. Risks for a notable pay-back in Q2 growth after the positive reading in Q1 are therefore rising. These developments are very likely to put Italy’s fiscal policy even more in the spotlight, especially as the government intends to cut taxes even if it means breaking the 3%-of-GDP limit. This was very visible in the 10yr BTP-Bund spread which widened from 250 bps to 270bps over the past week.
Similarly as observed in Italy, Spain’s services PMI fell short of expectations. It is early days still, but given that Spanish growth has become more and more reliant on domestic demand, some slowdown in economic growth the coming months seems more likely than not.
On Thursday the Irish debt agency issued a new 30year bond maturing in 2050. Syndicate demand was very solid and books exceeded €18 bn, encouraging the agency to launch a €4 bn deal at a, in our view, slightly expensive level. Initial secondary market performance of the new bond was moderately disappointing as the market seemed to have some difficulty digesting the supply.
Given the earlier strong performance of Spain we took the opportunity to sell 5-year Bonos -which according to our models traded at an expensive level - into 5-year French OATs. We believe that most of Spain’s fortunes are priced in now and see the possibility of some spread reversal. Especially against a backdrop of rising uncertainty around global and domestic growth developments. Investments in peripheral bonds are at circa 28%, about 13% below the level of the index, and thus reflective of our cautious stance. We continue to see opportunities in peripheral and semi-core 10-30 flattening trades. Year to date the absolute return of the fund is 2.54%*.