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Italy’s Debt Needs Surge as Costs Rise to Record


July 6 (Bloomberg) — In sovereign borrowing, as in comedy, timing is everything, and Italy’s timing is terrible.

The nation needs to refinance 26 percent of Europe’s second-biggest debt burden just as wrangling over Greece’s next rescue sends borrowing costs to euro-era records. The extra yield investors demand to hold 10-year Italian bonds relative to German bunds rose 16 basis points in the past two days to 199, approaching the all-time high of 223 set on June 27.

“Italy has a lot of positives going for it, but foreign buyers are going to be cautious while there’s contagion risk,”

said Steven Major, global head of fixed-income research at HSBC Holdings Plc in London. “Italy needs Greece to be sorted as it and all the other euro-region countries don’t need the contagion.”

Investor confidence in Italian bonds waned the past two months as Standard & Poor’s and Moody’s Investors Service said they may cut the country’s credit rating because slow economic growth will make it tough to curb debt. Italy’s 10-year bond yield topped 5 percent last week for the first time since November 2008, leaving Italy with rising financing costs as it faces a surge in bond redemptions.

The Italian government must pay 175 billion euros ($253 billion) of maturing bonds and bills in the second half of 2011 and 245 billion euros next year, according to data compiled by Bloomberg. That represents 26 percent of the nation’s 1.6 trillion-euro burden. By contrast, the U.K., which has total debt of 1.1 trillion pounds ($1.8 trillion), has to refinance 13 percent of the total in the same period.

Budget Dilemma

“If funding costs go higher still because spreads remain high, then it will create a more challenging situation,” said William De Vijlder, chief investment officer at BNP Paribas Investment Partners, which manages $780 billion. “As debt matures and needs to be refinanced, it will be at a higher level.

By then, Italy will need to have its budget better under control than it currently is because otherwise the debt-to-GDP ratio would start to accelerate.”

Italian bonds declined this week as talks with banks and insurers about their contribution to a new three-year aid package for Greece dragged on and European Union officials signaled the plan might not be approved until September. Standard & Poor’s also said that a proposed rollover of Greek debt maturing through 2014 into longer-term securities would trigger a default rating that EU and European Central Bank officials have said must be avoided.

‘Powerful Force’

“If the Greek mess goes on for a few more months and the 10-year yield stays at 5 percent or goes beyond that, the market will start to ask if this will be a problem in the long run” for Italy, said Luca Cazzulani, a senior fixed-income strategist at UniCredit SpA in Milan. “Markets can be quite irrational, but unfortunately they are a very powerful force.”

Unlike Ireland and Portugal, which followed Greece in seeking bailouts from the EU and International Monetary Fund, Italy has managed to skirt the worst of the fallout from the debt crisis.

Italian Finance Minister Giulio Tremonti unveiled 47 billion euros of deficit measures last week aimed at balancing the budget in 2014 and reassuring investors about Italy’s commitment to fiscal probity.

The budget plan wasn’t enough to convince S&P that Italy would be able to reduce its debt. S&P said on July 1 that even with the budget cuts there’s a “one-in-three likelihood that the ratings could be lowered within the next 24 months” because anemic growth would undermine fiscal goals. Italy is rated A+ by S&P, the fifth-highest ranking.

Debt-to-GDP

Italy’s government debt will reach 120 percent of gross domestic product this year, leaving Greece as the only euro-region nation with a larger burden, European Commission forecasts show. Efforts to tame the debt are hampered by lackluster growth. Italy’s economy expanded an average 0.2 percent annually from 2001 to 2010, compared with 1.1 percent in the euro area. Growth was 0.1 percent in the first quarter, a fraction of the 0.8 percent for the euro region.

“This is something that isn’t very appealing,” said Rose Ouahba, head of the fixed-income team at Carmignac Gestion, which oversees more than 50 billion euros in funds, referring to the nation’s deficit, debt-to-GDP ratio and growth outlook. The Paris-based firm doesn’t hold any Italian government debt.

As the economy stutters, borrowing costs have crept higher. A year ago, investors demanded a 109 basis-point premium to hold Italian debt rather than French securities. Now they demand 155 basis points.

“Italy is that much more sensitive to higher financing costs,” said Marc Ostwald, a fixed-income strategist at Monument Securities Ltd. in London. “It’s probably one of the most sensitive around. Any slight up move has a much greater impact. That is a concern.”