Friday, 23 January 2009

Bond Spreads Increase Again

This will be my last blog for a week as I am off ski-ing.

The Greek 10 year bond spread today reached 2.97% and the Italian 1.71% over German bunds. Spreads on Italian bonds were much higher in the run up to Euro day, 1st Jan 99 but before that date Italian bonds were denominated in lira so that the Banca d’Italia could, and did, print with gay abandon. The lira sank as the pound is now doing and the Italian economy recovered as the UK economy will eventually if government does not interfere.

The problem for the UK is the gilts bund spread is now 0.31% but more worryingly UK credit default swaps are now 5 times the German CDS. This means that the market thinks the UK is 5 times more likely to default on its obligations than the Germans. The next step on the slippery slope for the UK is like Spain we will lose our AAA credit rating. Put this together with Sterling’s slide and it’s a one-way bet against Sterling. John Foreigner won’t be buying Brown’s gilts!

Interesting to note the DMO that issues gilts is recruiting furiously. We will then see a phenomenon called ‘crowding out’ in which pension funds will increasingly buy gilts for safety and company corporate bonds will be shunned. Thus UK industry will be starved of capital and the UK slide will continue. Unfortunately David Cameron is no Mrs Thatcher. He does not have the balls for it.

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