Quarterly Outlook
Fixed Income Outlook: Bonds Hit Reset. A New Equilibrium Emerges
Althea Spinozzi
Head of Fixed Income Strategy
You can access both of our platforms from a single Saxo account.
Why it does not make sense for Italy to access the European Stability Mechanism
Althea Spinozzi
Head of Fixed Income Strategy
Summary: In order to understand whether it makes sense for Italy to access the European Stability Mechanism (ESM) it is necessary to understand what will be the country's cost of borrowing through the ESM versus its actual cost of funding.
On Monday the ESM has issued EUR 7bn 12-months Bills at a yield of -0.432% [1]. One day later, Italy issued EUR 7bn BOT with 12 months maturity at an average yield of 0.238% [2]. Therefore, ESM’s cost of funding is 67bps cheaper than Italy’s. However this advantage tightens up as we add ESM’s various fees.
The ESM, on the top of the base rate which reflects the ESM’s cost of funding, charges the borrower the followings [3]:
- Margin charged for the loan disbursed: 10bps annually
- Up-front service fee: 25bps
- Annual service fee: 0.5bps
Therefore, the advantage to borrow from the ESM against issuing BOTs ends up to be only of 27bps, bringing the borrowing cost around zero of a county that already can raise capital without issues at a very low interest rate.
Besides saving up a ridiculously small amount of money, the borrowing country has to accept the followings:
- The margin can vary according to the ESM’s investment policy changes, therefore Italy’s overall cost of borrowing can surge. This is what happened to Spain between 2013 and 2014. Spain started in 2013 to pay a lending rate to the ESM of approximately 40bps, but it ended up paying 100bps in 2014 as the ESM shifted its investment policy from issuing short-term securities to longer-term funding instruments [4].
- Money will not be available straight away. Italy can borrow up to 2% of 2019 GDP, this amounts to EUR 36bn. However, the ESM will give Italy up to EUR 5.4bn per month. This means that it will take 7 months to get the full amount. At the moment Italy does not have liquidity constraints and if BOT issuances are as successful as the one of this week, the country will be able to raise this money by itself.
- Klaus Regling made it clear that once the loan will be granted there will be surveillance in order to guarantee the solvency of the borrower (exactly as a regular bank would do). The borrowing country therefore has to respect ESM’s economic guidelines, otherwise punitive measures will be applied. Ultimately, the only way to be in line with ESM’s guidelines means to gradually reduce public debt, which is a strategy Italy will not be able to pursue at the moment.
Latest Market Insights
Quarterly Outlook
-
-
Quarterly Outlook
Equity Outlook: Will lower rates lift all boats in equities?
Peter Garnry
Chief Investment Strategist
After a period of historically high equity index concentration driven by the 'Magnificent Seven' sto... -
Quarterly Outlook
FX Outlook: USD in limbo amid political and policy jitters
Charu Chanana
Chief Investment Strategist
As we enter the final quarter of 2024, currency markets are set for heightened turbulence due to US ... -
Quarterly Outlook
Macro Outlook: The US rate cut cycle has begun
Peter Garnry
Chief Investment Strategist
The Fed started the US rate cut cycle in Q3 and in this macro outlook we will explore how the rate c... -
Quarterly Outlook
Commodity Outlook: Gold and silver continue to shine bright
Ole Hansen
Head of Commodity Strategy
-
Quarterly Outlook
FX: Risk-on currencies to surge against havens
Charu Chanana
Chief Investment Strategist
Explore the outlook for USD, AUD, NZD, and EM carry trades as risk-on currencies are set to outperfo... -
Quarterly Outlook
Equities: Are we blowing bubbles again
Peter Garnry
Chief Investment Strategist
Explore key trends and opportunities in European equities and electrification theme as market dynami... -
Quarterly Outlook
Macro: Sandcastle economics
Peter Garnry
Chief Investment Strategist
Explore the "two-lane economy," European equities, energy commodities, and the impact of US fiscal p... -
Quarterly Outlook
Bonds: What to do until inflation stabilises
Althea Spinozzi
Head of Fixed Income Strategy
Discover strategies for managing bonds as US and European yields remain rangebound due to uncertain ... -
Quarterly Outlook
Commodities: Energy and grains in focus as metals pause
Ole Hansen
Head of Commodity Strategy
Energy and grains to shine as metals pause. Discover key trends and market drivers for commodities i...
Disclaimer