Investors hide in German debt as Brexit rocks euro zone
LONDON, June 24, 2016
Investors ran for the safety of top-rated German debt and ditched bonds in riskier southern Europe as Britain's vote to leave the European Union created the biggest shock to the euro zone's markets since its 2012 crisis.
German bond yields -- an indication of government borrowing costs -- dropped to record lows while equivalents in the likes of Spain, Italy and Portugal shot to multi-month highs.
Britain's vote, which defied the expectations of financial markets and forced the resignation of Prime Minister David Cameron, deals a blow to the European project of greater unity and could embolden breakaway movements elsewhere.
"Brexit is not just a UK issue. It is an issue for Europe and I think it is just the start of Europe having to figure out where the future lies," Mizuho strategist Peter Chatwell said.
German yields across all maturities plumbed record lows, with the 10-year benchmark falling as low as minus 0.17 percent , on track for its biggest drop since the height of the euro zone crisis in August 2012.
The fallout from Brexit was felt most keenly in southern Europe, with Spain set to return to the polls this weekend for the second time in six months and Italy witnessing a surge in popularity for its own eurosceptic 5-Star Movement.
Ten-year yields in Spain and Italy rose as much as 40 basis points in early trades to hit 1.92 percent and 1.76 percent, respectively, but eased back slightly with traders saying the European Central Bank's asset purchases had helped calm markets.
The cost of insuring Spanish debt against default -- as measured by credit default swaps -- rose to its highest since late 2013.
Money market rates implied that the European Central Bank will cut interest rates by September, with around a 60 percent chance seen for a cut at its next meeting in July.
Citi said in a note that, in the coming days and weeks, it also expected the Bank of England and other European central banks to cut rates, and the U.S. Federal Reserve to delay its next hike to December 2016 or beyond.
Any perceived hit to near-zero inflation in the euro zone could certainly tip the ECB towards further easing.
A key measure of the bloc's long-term inflation expectations -- the five-year, five-year forward rate -- slumped to a new record low of 1.34 percent, moving further away from the ECB's target of close to 2 percent.
"On the European continent, we have to brace ourselves for serious ripple effects. The Brexit shock, the resulting uncertainty and likely market upheaval will also dampen growth in the euro zone for the remainder of this year," said Holger Schmieding, chief economist at Berenberg Bank in London.-Reuters