Italian bonds fall on downgrade as German yields drop to records

July 13 (Bloomberg) -- Italy’s 10-year bonds fell for a second day, pushing the yield above 6 percent, after Moody’s Investors Service cut the nation’s credit rating by two steps and reiterated its negative outlook.

Italian notes reversed an intraday decline after borrowing costs fell at an auction of 3.5 billion euros ($4.3 billion) of securities due in 2015. Austrian, Belgian, French and German two-year yields fell to records and the rate on similar-maturity Dutch debt dropped below zero for the first time as investors sought the safest assets.

“The downgrade overnight pushed the selloff on Italian bonds,” said Nick Stamenkovic, a fixed-income strategist at broker RIA Capital Markets Ltd. in Edinburgh. “It should intensify the pressure on overseas investors to move out of Italian bonds.”

The yield on 10-year Italian debt jumped nine basis points, or 0.09 percentage point, to 6 percent at 2:14 p.m. London time, after climbing as much as 17 basis points to 6.08 percent. The 5.5 percent security maturing in September 2022 fell 0.66, or 6.60 euros per 1,000-euro face amount, to 96.855. The two-year rate slipped 18 basis points to 3.63 percent, after rising to 4.09 percent.

Moody’s lowered Italy’s bond rating to Baa2 from A3 and said further cuts are possible because the nation’s economic outlook has “deteriorated,” it said in a statement released in Frankfurt. That’s two levels above junk and one higher than Spain, according to data compiled by Bloomberg.

Index-Linked Bonds

The nation’s inflation-linked debt may be excluded from some global bond indexes following the downgrade, forcing investors to sell, Christoph Rieger, the head of interest-rate strategy at Commerzbank AG in Frankfurt, wrote in an e-mailed note today. The yield on Italy’s index-linked bond due in September 2021 climbed 43 basis points to 5.25 percent.

Italy is Europe’s largest bond market with 1.64 trillion euros of bonds outstanding, according to the website of the nation’s debt agency. The nation sold three-year notes at an average yield of 4.65 percent, compared with 5.3 percent at a previous auction of similar-maturity securities on June 14. Investors bid for 1.73 times the amount of notes allotted, up from a so-called bid-to-cover ratio of 1.59 last month. Italy also auctioned debt maturing between 2019 and 2023.

Europe’s higher-rated nations’ yields have plunged this month, reaching the lowest on record, as investors sought the nations’ debt as a haven from the area’s financial turmoil and the European Central Bank cut borrowing costs. Policy makers reduced the main refinancing rate to a record 0.75 percent on July 5 and cut the deposit rate to zero to stimulate lending.

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