Europe’s bonds back in vogue, analysts warn of risk
Investors have renewed appetite for euro bonds, even as European economies languish
LONDON — When Ireland recently made its first offering of new debt since leaving its bailout program, Irish Prime Minister Enda Kenny was already focused on where the money would come from next.
He was in Doha, Qatar, where he and the country’s prime minister, Abdullah bin Nasser bin Khalifa Al Thani, smiled broadly as they posed together. The trip, earlier this month, also included a visit to Dubai, United Arab Emirates, where Kenny and the head of state there, Sheik Mohammed bin Rashid Al Maktoum, sat side by side on velvet and gold thronelike chairs.
Kenny next went to Riyadh, where he said he was “very much interested in finding out if the Saudi Arabian Monetary Agency could resume purchasing Irish bonds as before.”
Once again, foreign investors are piling into the government bonds of Ireland, Spain and Portugal — countries that got into such debt trouble that they required bailouts. Now these countries are able to sell their bonds at lower interest rates than they have seen in years, renewing hope that Europe has turned a corner.
And yet, there are still few signs of relief from the deeper-rooted economic woes that have trapped much of the eurozone in a slump for more than five years — and that continue to be a drag on the global economy. Despite the suddenly easier terms under which Ireland and other recovering eurozone countries can borrow, the fact remains: These countries are still mired in stagnation.
If investors, in their renewed appetite for euro bonds, are betting on Europe’s recovery, it is hardly a no-risk gamble.
“Things are going better, but they are by no means good,” said Jacob Kirkegaard, who tracks Europe at the Peterson Institute for International Economics.
The ratio of Ireland’s debt to its economic output has nearly doubled — to an estimated 124 percent last year, up from 64.4 percent in 2009. And although it technically emerged from its international rescue program in December, Ireland will still be paying off the 67.5 billion euros, or about $91 billion, in bailout money for years to come.
Claus Vistesen, the head of research at Variant Perception, a London-based economic research group, sees the ratio of debt to economic output as a continuing threat to a eurozone recovery.
“People think growth is coming back,” Vistesen said, “but at the end of the day, debt is still going up.”
A spokesman for the Irish Finance Ministry said the country’s debt levels were expected to begin edging down this year. The ratings agency Moody’s agreed, citing Ireland’s improving finances and falling interest rates when it upgraded Irish debt from junk to investment grade last week.
For the eurozone at large, though, a step back often follows each step forward. France and Italy, the bloc’s second- and third-largest economies, are increasingly seen as the latest sick men of the Continent. Even Germany, the bloc’s powerhouse, grew only feebly last year, by 0.4 percent.
While unemployment, at a lofty 12.1 percent, appears to have stopped increasing, it is not showing signs of marked improvement, with countries like Spain and Greece still mired in Great Depression-era joblessness. Compared with Europe, the United States, despite a lingering unemployment rate of 6.7 percent, seems to be on a roll, growing at an annual rate of 4.1 percent in the third quarter.
Economic demand in Europe remains so tepid that inflation rates have fallen to a level that is impeding recovery and threatening to lapse into outright deflation — a chilling prospect that makes debts more expensive, puts pressure on wages and further discourages consumer spending.
“Europe is hardly roaring back to life,” said Nicholas Spiro, the managing director of Spiro Sovereign Strategy in London.
“Talk about a recovery — the European Central Bank is still mulling measures to ward off the threat of deflation,” he added. “That speaks volumes of the weakness of the eurozone economy, and yet investors are piling into eurozone debt.”
Feargal Purcell, the press secretary for the Irish prime minister, said that since Kenny took office in 2011 he had focused on “rebuilding our reputation,” which has included trips to the United States, China, Japan and, most recently, the swing through the Middle East.
“We’ve exited the bailout, we chose to do so without a precautionary credit line, and I think the recent bond sale is an endorsement of that action,” he added. “Sixteen hundred jobs a week were being lost before we took office; we’re now in a position where 1,200 jobs a week are being created, and our consumer confidence numbers have been steadily growing.”
At the same time, he acknowledged, “we still have work to do on the unemployment front and conversations in Europe with respect to debt sustainability.”
Portugal plans its own exit from its bailout program by the middle of the year. And in Spain, where banks required a 41 billion euro international bailout in 2012, Prime Minister Mariano Rajoy told U.S. business leaders this month that “recovery is taking hold, and the country’s appeal as an investment target is being rekindled.”
More restrained have been nonpoliticians like Mario Draghi, the head of the European Central Bank. Asked at a recent news conference whether it would be premature to declare victory, he said, “I would be very cautious about saying that, very cautious indeed.”
“Unemployment stands at over 12 percent,” Draghi continued. “The only positive news is that this unacceptably high unemployment rate is stabilizing,” he said.
“The recovery is there, but it is weak; it is modest,” he added. “As I have said many times, it is also fragile, meaning that there are several risks — from financial and economic risks, through geopolitical risks, to political risks.”
Some attribute the fact that the bond offerings have been warmly received to institutional investors rotating out of emerging markets like India and Brazil. Money managers worry about the potential global ripple effects as the Federal Reserve begins to taper its economic stimulus program.
Such investors now view some of the European countries that were bailed out as a safer bet. In Ireland, more than 80 percent of the investment came from abroad, with banks and pension funds making up 37 percent of the offering and fund managers about half.
Kirkegaard cited “the hunt for yield.” In this era of low interest rates — the benchmark 10-year U.S. Treasury bond now trades at around 2.85 percent — the higher premiums that countries like Ireland must pay to borrow are a lure to global investors.
“I think it was much more traditional asset managers, pension funds, insurance companies, etc., sitting there, and they probably own a lot of safe-haven assets,’’ Kirkegaard said. ”They are getting less than 2 percent for that, and they are probably thinking these countries are not a real credit risk anymore, so why not take 4 percent instead?“
This week, demand has been such that yields on 10-year Irish bonds fell closer to 3 percent.
Max Golts, a London-based senior investment strategist for Fidelity Investments, said “you could reasonably speculate that Europe is looking safer than emerging markets.”
“It’s also a matter of fashion and flavor of the month,” he added, “and Europe just doesn’t look scary at this moment.”