Wednesday, July 18, 2012 - 11:05

Europe's Negative Core Yields Highlight North-South Divide

PARIS (MNI) - The great divide in European interest rates widened on Wednesday as short-term note yields showed minus signs in a growing number of northern European government bond markets while rates in southern Europe continued to rise.

Germany sold E4.2 billion of two-year notes at an average rate of -0.06%, the first negative yield at a German two-year sale. Rates on two-year notes in Finland and Austria dropped briefly below zero before rising slightly, while yields in Denmark and Switzerland remained solidly in negative territory.

"If you a looking for a risk-free rate in short-dated European bonds, you are looking at a minus sign," said Justin Knight, interest rate strategist at UBS.

Analysts said the ongoing flight-to-quality out of the European periphery into core markets has been given added impetus by the European Central Bank's recent cut in its deposit rate to zero.

The ECB move has fueled the scramble for yields, prompting investors to move further out on the yield curve or into semi-core markets like France and Belgium.

"There is very much a yield grab going and it's prompting a very sharp convergence" in the northern tier, said Luca Jellinek, head of European interest-rate strategy at Credit Agricole CIB.

Two-year yields late Wednesday were negative in Germany (-0.047%), Denmark (-0.31%) and Switzerland (-0.38%) and barely positive in the Netherlands (0.010%), Finland (0.018%) and France (0.12%).

Spain's two-year note yield, meanwhile, climbed 25 basis points Wednesday to 4.97%, while two-year rates edged up to 3.60% in Italy and to 9.85% in Portugal.

Joerg Asmussen, a member of the ECB's Executive Board, said in an interview released Wednesday that the current divide between north and south in Europe is at a level "that I have not experienced over the last 10 to 15 years." He added: "We must quickly move away from that."

Analysts said some big investors, particularly hedge funds, may be willing to accept negative yields because they are also betting that the single currency ultimately won't survive.

"You could say that getting a negative yield on a [German] Schatz is an option on the euro breaking up," said Jellinek of Credit Agricole. "Instead of getting 100 euros back you get 100 new Deutsche marks."

--Paris newsroom; +33142715540;

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