Robeco: Italy loses its last single-A rating

Main market events

In an eventful week with UK Prime Minister May’s Brexit speech, an ECB press conference and the US presidential inauguration, peripheral bond markets were calm. Italian spreads widened a bit, while Portuguese spreads tightened somewhat. Demand for the new 15-year Italian government bond was decent, but Italy issued a smaller amount than expected. Italy has to issue a significant amount of long-dated bonds to manage the refinancing risk of its sizeable government debt. Italian bonds have returned -1.05% this year, Spanish bonds -0.40%, Portuguese bonds -0.50% and Irish bonds -1.44%.

Italy

The DBRS downgrade will have negative repercussions for the Italian banking sector, as the ECB will now increase the haircut on Italian government bonds that banks use to borrow money from the ECB. Banks will need to post on average 8% more collateral to borrow the same amount of money from the ECB.

Spain

The European Commission approved the draft budget for 2017. The government will now need to find agreement with opposition parties to secure parliamentary approval. The EC expects the budget deficit to decline from 4.6% in 2016 to 3.3% in 2017 with this plan. The plan contains more austerity measures than required to reduce the structural deficit by at least 0.5% of GDP. 

Greece

Recent polls indicate that the support for the ruling government party is decreasing as Syriza just gets 16% of the votes versus 31% for opposition party New Democracy (centre right). Although the polls differ from week to week, it’s clear that Syriza lags New Democracy. 

Robeco Euro Government Bonds

We maintained our underweight position in Italy this week. Italy needs reforms to increase growth. Stronger growth is necessary to improve the sustainability of the public debt, to reduce banks’ NPLs and to reduce unemployment and hence political risks. Rising yield levels are also unfavorable given Italy’s large public debt.

We maintain our overweight position in Ireland. Irish bond spreads are attractive given the improved Irish fundamentals and its strong ESG scores. Currently the fund is 31% invested in peripheral bonds, versus 39% in the benchmark. Year-to-date the fund’s absolute return is -0.98%.

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