Deflation makes euro bond slide an opportunity for standard life
By Bloomberg
European Central Bank President Mario Draghi faces a tall order in his mission to boost inflation to close to 2 percent. For Standard Life Investments, that’s a reason to stay unfazed by the recent selloff in the region’s lower-rated government bonds.
The main aim of Draghi’s debt-purchase plan, which involves acquiring 60 billion euros ($66 billion) of bonds a month, is to boost inflation. So stubbornly low or negative price growth means the program’s more likely to last through September 2016 as planned or even beyond that date, giving support to bonds, Edinburgh’s largest money manager said.
“The environment means quantitative easing will be in place for some time, and the mechanistic impact is still going to be a positive driver for European bonds,” said Jack Kelly, an investment director at Standard Life, which manages about 246 billion pounds ($368 billion) of assets.
A rally that was induced by anticipation of the QE program on March 9 has stalled, with Portuguese bonds losing investors 0.7 percent in the week through Wednesday. One of the triggers was Italy’s bond sale last week: it was bigger than some investors expected and fueled concern governments would flood the market to take advantage of record-low borrowing costs.
Fixed Returns
That pullback, Kelly said, won’t last. As well as encouraging the ECB to string out QE, low inflation -- and particularly the deflation the euro area’s suffering from now -- boosts the value of the fixed returns provided by bonds. Consumer prices fell 0.3 percent in February from a year earlier, the third consecutive month of declines.
Italy’s 10-year bonds dropped for a fourth day on Thursday as the country sold 3.5 billion euros of securities. Spain sold 3.5 billion euros of inflation-linked debt due in November 2030 on Tuesday, according to a person familiar with the matter. The Netherlands sold 10-year bonds at a record-low auction yield on Tuesday after Belgium allotted 3.06 billion euros of securities a day earlier.
‘Very Cheap’
“Clearly, when there is demand there from investors and the central bank, it makes sense for them to do longer-term funding at these cheap levels,” Kelly said. “And remember, even if peripheral yields sell off 100 basis points from here, those funding levels are still very cheap to the issuers.”
Italy’s 10-year yield rose two basis points, or 0.02 percentage point, to 1.36 percent as of 10:55 a.m. London time, having climbed from a record-low of 1.031 percent on March 12. The 2.5 percent bond due December 2024 fell 0.195, or 1.95 euros per 1,000-euro ($1,102) face amount, to 110.385.
Rates on similar-maturity Spanish bonds advanced one basis point to 1.30 percent.
Euro-area government bonds have still made investors an average 1.2 percent this year, compared with a 0.4 percent gain for U.S. Treasuries, according to Bloomberg World Bond Indexes.