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Portugal debt cost seen up at auction, but no bailout trigger

Although seeking EU aid would be politically fraught for Lisbon, many analysts believe the heavily-debited country will have no choice but to apply for EU-IMF financial assistance

Reuters, Wednesday 12 Jan 2011
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Portugal is likely to pay record high premiums to place debt on Wednesday, but recent bond buying by the European Central Bank should avert a dramatic rise in yields to levels that prompt the country to seek a bailout.

The heavily-indebted Iberian country faces the bond markets for the first time in 2011 and needs to convince investors that it can keep financing itself without seeking EU financial aid or provoking a contagion that affects the much bigger economy of neighboring Spain.

Portugal is widely seen as the next euro zone weakling that will need a financial bailout following in the wake of Greece and Ireland.

Caution over the auction and a debt sale due on Thursday by Spain capped the euro against the dollar in Asian trade as investors waited to see what yields investors would demand to risk their capital.

The yield on Portugal's 10-year bond rose to a euro lifetime high of 7.3 percent in the secondary market on Friday. But it came come down to just below 7 percent at Tuesday's close, with traders citing ECB purchases.

On Wednesday, Portugal is to offer a total of between 750 million euros ($972.1 million) and 1.25 billion euros in four- and 10-year bonds.

"The market will take it down primarily because of what the ECB is doing. The ECB appears to be proactive enough and we've seen tightening in Portuguese yields so far this week," said Peter Chatwell, rate strategist at Credit Agricole in London.

Still, the borrowing costs should hit a new euro lifetime auction record of around 7 percent for the 10-year bond, up from 6.806 percent in the previous sale in November.

Bonds maturing in October 2014 yield 5.81 percent in the secondary market, up from 4.04 percent in the previous auction in October.

"Growing yields in the auctions all add to longer-term concerns about debt and liquidity, but it's not like it's going to be a make-or-break auction," said Chatwell.

BNP Paribas analyst Ioannis Sokos said he was not worried about demand at the auction or the yields after the ECB buying.

"I expect the auction to be already sold, with domestic demand enough to cover supply, but it doesn't mean that concerns will go away ... The next big test will be the syndication placement and peer pressure on Portugal to take aid," he said.

The country plans to launch a new bond worth at least 3 billion euros via a banking syndicate in the first quarter.

Traders said the ECB was active in the debt market on Tuesday buying Portuguese bonds as part of a plan to stabilize volatile peripheral debt markets.

Even if Portugal's debt auction is successful on Wednesday, markets will focus on how long the country can maintain such borrowing levels.

"Portugal is a dead man walking really, it's just a matter of time," Alan McQuaid, chief economist at Bloxham Stockbrokers in Dublin, said on Tuesday.

"You might have a successful auction but the point is how long can you sustain those bond yields? Every month it's going to go higher and higher."

A senior euro zone source said at the weekend that pressure is growing on Portugal from Germany and France to seek financial help from the European Union and International Monetary Fund.

Both countries have denied any pressure and Germany also said European Union aid for Portugal is not on the agenda of next Monday's meeting of finance ministers from the bloc.

Portugal's Prime Minister Jose Socrates has repeatedly denied any intention of seeking a bailout and is focusing on cutting the budget deficit and on measures, such as boosting exports, to raise economic growth.

Analysts say the question for Portugal is how long it can afford to finance itself at current high rates, particularly in view of a 4.5 billion euros bond redemption due in April.

"The current situation is not sustainable forever," said Filipe Silva, debt manager at Banco Carregosa in Porto.

Spain is also expected to pay a hefty premium to sell up to 3 billion euros of 5-year bonds on Thursday.

In Italy, the euro zone periphery's most liquid debt market, yields rose to a two-year peak on Tuesday.

Investor concerns over Portugal focus on its ability to rein in its debts and create sustainable economic growth.

The minority Socialist government's austerity drive, including 5 percent wage cuts for civil servants and tax hikes, aims to cut the budget deficit to 4.6 percent of gross domestic product this year.

The government said on Tuesday it beat last year's 7.3 percent budget deficit goal.

But the central bank said the austerity will throw the economy back into recession after estimated growth of 1.3 percent last year. That would make budget targets harder to meet and possibly stir opposition to spending cuts. Unions held a general strike late last year.

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