As the expected end of Moody's review to possibly downgrade Italy's sovereign debt rating closes in, market participants are bracing for another hit to that country's bond market.
Moody's Investors Service says ratings decisions are historically made within 90 days of putting a country on review for possible downgrade. Italy's 90-day period closes at the end of this week, as Moody's warned it might downgrade the country June 17. Moody's declined to comment on the status of the review.
A potential downgrade comes at a difficult time for Italy and potentially the entire euro zone. Italy, the euro zone's third-largest economy, is already reeling from a disappointing debt auction earlier this week. And the overall region's health continues to hinge on whether Italy and Spain will need bailouts similar to those of Greece, Portugal and Ireland.
Investors are increasingly watching ratings actions on European countries and banks to get a gauge of how far the debt crisis has spread. Earlier Wednesday, Moody's downgraded French banks Societe Generale SA (SCGLY, GLE.FR) and Credit Agricole SA (CRARY, ACA.FR) at the end of their three-month review periods. News reports over the past weekend that brought attention to the end of the review periods hurt those banks' stocks Monday.
Investors are likely to see a "knee-jerk reaction" in both the bond and currency markets if Moody's downgrades Italy, said Guy LeBas, chief fixed income strategist at Janney Montgomery Scott in Philadelphia. "The euro has been pummeled the last two weeks so any reason [to drive it lower] would garner momentum." LeBas also says bond yields are likely to initially spike higher if the country is downgraded.
Tuesday, Italy was forced to pay sharply higher yields at an auction for five- to nine-year notes. The country sold the key five-year notes at a yield of 5.60%, well above the 4.93% it paid at a July 14 sale for debt with a similar maturity.
Since Moody's put Italy on review for downgrade in mid-June, the cost to insure the country's debt has more than doubled. The debt's credit default swaps, which measure the cost to insure investors against default, were at 465 basis points, according to Markit. They were at 171 the day Moody's put the country on review June 17. This indicates the market thinks Italy's credit situation has grown significantly worse since the warning from Moody's.
Market reaction if Italy is downgraded could be somewhat fleeting because Moody's currently has the highest rating on Italian debt among the three biggest ratings firms. Any Moody's downgrade would likely only put it in line with Standard & Poor's or Fitch Ratings.
Moody's currently rates Italy at Aa2, equivalent to one notch above where Fitch rates the country and two levels above S&P's rating. S&P has a negative outlook on Italy, which is a long-term view on the country's debt. Unless Moody's drastically cuts Italy's rating--something that's unlikely--all three firms consider Italy's debt to be investment grade.
A ratings cut isn't guaranteed either. Moody's could say the progress Italy has made on austerity budget plans, which were approved Wednesday, offset the deteriorating market conditions. Italian officials have also said they might roll out "extraordinary" measures in coming weeks aimed at lightening the country's debt burden.
But a potential downgrade "adds to the list of negatives" for the euro zone, said Vassili Serebriakov, foreign exchange strategist at Wells Fargo in New York. A downgrade would make it even more difficult for Italy to borrow and add further stress to the region's debt market.
Moody's Investors Service says ratings decisions are historically made within 90 days of putting a country on review for possible downgrade. Italy's 90-day period closes at the end of this week, as Moody's warned it might downgrade the country June 17. Moody's declined to comment on the status of the review.
A potential downgrade comes at a difficult time for Italy and potentially the entire euro zone. Italy, the euro zone's third-largest economy, is already reeling from a disappointing debt auction earlier this week. And the overall region's health continues to hinge on whether Italy and Spain will need bailouts similar to those of Greece, Portugal and Ireland.
Investors are increasingly watching ratings actions on European countries and banks to get a gauge of how far the debt crisis has spread. Earlier Wednesday, Moody's downgraded French banks Societe Generale SA (SCGLY, GLE.FR) and Credit Agricole SA (CRARY, ACA.FR) at the end of their three-month review periods. News reports over the past weekend that brought attention to the end of the review periods hurt those banks' stocks Monday.
Investors are likely to see a "knee-jerk reaction" in both the bond and currency markets if Moody's downgrades Italy, said Guy LeBas, chief fixed income strategist at Janney Montgomery Scott in Philadelphia. "The euro has been pummeled the last two weeks so any reason [to drive it lower] would garner momentum." LeBas also says bond yields are likely to initially spike higher if the country is downgraded.
Tuesday, Italy was forced to pay sharply higher yields at an auction for five- to nine-year notes. The country sold the key five-year notes at a yield of 5.60%, well above the 4.93% it paid at a July 14 sale for debt with a similar maturity.
Since Moody's put Italy on review for downgrade in mid-June, the cost to insure the country's debt has more than doubled. The debt's credit default swaps, which measure the cost to insure investors against default, were at 465 basis points, according to Markit. They were at 171 the day Moody's put the country on review June 17. This indicates the market thinks Italy's credit situation has grown significantly worse since the warning from Moody's.
Market reaction if Italy is downgraded could be somewhat fleeting because Moody's currently has the highest rating on Italian debt among the three biggest ratings firms. Any Moody's downgrade would likely only put it in line with Standard & Poor's or Fitch Ratings.
Moody's currently rates Italy at Aa2, equivalent to one notch above where Fitch rates the country and two levels above S&P's rating. S&P has a negative outlook on Italy, which is a long-term view on the country's debt. Unless Moody's drastically cuts Italy's rating--something that's unlikely--all three firms consider Italy's debt to be investment grade.
A ratings cut isn't guaranteed either. Moody's could say the progress Italy has made on austerity budget plans, which were approved Wednesday, offset the deteriorating market conditions. Italian officials have also said they might roll out "extraordinary" measures in coming weeks aimed at lightening the country's debt burden.
But a potential downgrade "adds to the list of negatives" for the euro zone, said Vassili Serebriakov, foreign exchange strategist at Wells Fargo in New York. A downgrade would make it even more difficult for Italy to borrow and add further stress to the region's debt market.
0 comments:
Post a Comment