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EU’s Prelude to Landmark Recovery Bond Sales Ends With a Whimper

·3 min read

(Bloomberg) -- The European Union’s final bond sales for its regional jobs program failed to live up to the hype of previous editions, a concerning sign for its landmark borrowing spree that’s due to start in the second half of the year.

Investors placed 88.7 billion euros ($108 billion) of orders for eight- and 25-year securities tied to the SURE social program, little more than a third of the record set for a dual-tranche issue last year. It comes as yields across the region climb as investors prepare for European Central Bank to scale back its bond purchases in the face of growing inflationary pressures. The bloc is ready to start sales for its 800 billion-euro recovery fund by July.

It marks a stark turnaround for one of the hottest new triple-A rated bond markets in town. When the EU launched the securities last year, Europe was still firmly in the throes of lockdowns, the ECB was committed to pumping money into debt markets and investor demand for the securities was enormous. Now, with economies reopening and consumer prices expected to accelerate, they’re becoming a less attractive asset.

“We had been used to some very strong demand for the EU bonds,” said Jens Peter Sorensen, chief analyst at Danske Bank AS. “Why buy today, if you can buy cheaper tomorrow? That’s becoming a self-fulfilling prophecy.”

The bloc is set to become a major issuer of bonds in the coming years, potentially creating a debt market akin to the size of Spain’s. The securities have also been touted as a one-day rival to U.S. Treasuries, given the current scarcity of German bonds -- the region’s haven asset -- and the risks associated with holding riskier peripheral debt.

In another sign of waning demand, the yield on 10-year SURE bonds has climbed more than 40 basis points since they were issued in October. That mirrors moves elsewhere in Europe, with German 10-year bond yields climbing to their highest level since 2019 last week.

Goldman Sachs Group Inc. expects them to breach 0% for the first time since 2019 this year. Italian 10-year bond yields rose to the highest level since July on Monday as investors speculated an economic growth rebound could mean less central bank support.

“The first few EU SURE syndications were a smashing success in terms of demand,” said Martin van Vliet, a strategist at Robeco. “There will be structural demand for triple AAA paper such as the EU, so the recovery fund issuance will be digested, but we’re not sure demand will be as astronomical.”

The Commission announced Monday that it would use an auction system operated by France’s central bank to issue debt later in the year, relying on syndications in the meantime. Sales are expected to average around 150 billion euros per year for the duration of the program, though all member states need to ratify the recovery program for funds to start flowing.

Still, EU bonds will outperform “core” European sovereign peers because investors face a serious shortage of notes in both the short- and long-term, Commerzbank AG analysts wrote in a note to clients last month. Any attempt to extend the size of the package is likely to be politically difficult, they argue.

The EU mandated Deutsche Bank AG, LBBW, Morgan Stanley, Natixis SA and NatWest Markets for the sale of SURE bonds. Commerzbank expects the EU will sell as much as 15 billion euros of bonds. The sale of eight-year securities was given a price of two basis points below midswaps, while the 25-year was marked at 17 basis points above.

“Over the last couple of weeks things have definitely turned more challenging,” said Christoph Rieger, head of fixed-rate strategy at Commerzbank. “Lower ECB buying may require somewhat higher premiums.”

(Updates to include final demand from first paragraph.)

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