Italy's record inflation-linked bond sale may be a "boomerang"

Marius Zaharia
Monday, 11 Nov 2013 | 9:19 AM ET

* Record BTP Italia sale received well by the market

* But contributes to the trend of falling average debt life

* Italy will not rely too much on private wealth as backstop

LONDON, Nov 11 (Reuters) - Italy's record inflation-linked bond sale last week shows its wealthy private individuals and companies can be an important source of funding but complicates plans to lengthen the maturity of its 2 trillion euro debt.

Extending the average repayment term of its bonds - something Italy has not done since 2010 - is key to making its overall debt more sustainable and investors more comfortable about refinancing it should the debt crisis flare up again.

Financial markets welcomed the bumper demand for the BTP Italia bonds, which were aimed mainly at local retail investors in a bid to diversify funding sources.

Ten-year debt costs hit five-month lows of just over 4 percent in its wake, helped also by a European Central Bank rate cut and, with the Treasury planning to reduce the size of the year's remaining auctions after last week's sale, it should keep those borrowing costs low.

"Today it's a positive. It's a near-term bullish development that's reducing the supply pressure until the end of the year," said Richard McGuire, senior rate strategist at Rabobank.

But Italy's debt agency was unhappy that the 22.3 billion euro sale of the four-year BTP Italia bonds had created a repayment burden for 2017 and said it was considering buying back bonds and swapping debt exchanges to reduce the cost.

That showed Italian households' 8.6 trillion euros of net wealth was unlikely to be used as a long-term alternative if banks, pension funds or insurers turn their back on Italy, analysts said.

"BTP Italia (sales) can be like a boomerang," ING rate strategist Alessandro Giansanti said. "It risks creating a redemption hump for the next few years. I think in 2014 and 2015 they will issue less BTP Italia and try to do more syndicated long-term issues."

Italy launched its first "BTP Italia" bond in March 2012 and a sale in April 2013 raised a hefty 17.1 billion euros. The Treasury plans further sales next year.

Syndicated issues depend on interest from foreign investors, but they may be put off if the fragile coalition government does not implement reforms seen necessary for sustainable economic growth.


Despite a successful 30-year syndicated sale this year, Italy is still struggling to lengthen the maturity of its debt.

The average life of its debt is 6.44 years, down from 6.62 in 2012 and is set for a third consecutive annual drop given that the BTP Italia sale leaves little room for further issuance until the end of the year.

While the figures are not necessarily alarming, the trend is worrying given the size of overall debt, which cannot be rolled over indefinitely in ever shorter periods, analysts say.

"That's something they'll be keen to reverse," ICAP strategist Philip Tyson said.

Debt repayments for 2017 stand at about 185 billion euros, slightly lower than a peak of close to 200 billion euros for 2015, Treasury data shows. http://link.reuters.com/quz54v

Beyond 2017, annual redemptions fall below 100 billion euros, but they could rise closer to the peak if Italy keeps selling short-term bonds. Ideally, Italy would want to issue more bonds maturing beyond 2023, when annual debt repayments fall significantly below 50 billion euros.

While buybacks and debt exchanges can help increase overall maturities, they are costly and create market distortions.

Short-term bonds are likely to fare better than longer-term paper as investors know they could be paid a premium to switch to longer-term debt later, steepening the yield curve and increasing the temptation for the government to seek cheaper, short-term funding.

(Editing by Nigel Stephenson and Giles Elgood)