Europe News

New Warnings on Spain Despite Bond Auction Success with Reuters

An intensification of Spain's recession poses the biggest risk to the country's 'investment grade' credit rating the head of Fitch's sovereign ratings team said on Thursday.

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"The biggest threat from our perspective to Spain's investment grade status is actually that the recession there intensifies and that spills into greater concerns about bank asset quality as well as the solvency of the Spanish state," David Riley, said in an interview with Reuters Insider Television.

This comes as Spain's central bank Governor Luis Maria Linde said the government's 2013 budget forecasts for the economy and tax revenue were optimistic and that deficit reduction targets may be missed.

Speaking in parliament the Bank of Spain head said the economy would contract by around 1.5 percent next year, in line with estimates by outside organizations.

The government budget is based on a forecast of a 0.5 percent contraction, which he said was "certainly optimistic." Earlier Spain had a successful bond auction where it sold 4 billion euros ($5.1 billion) of shorter-dated government bonds with buoyant investor demand. (Read more: Spain Sells 4 Billion Euros of Bonds, Yields Mixed)

Spain has found itself in the eye of the storm in recent weeks as speculation has mounted that a formal request for a bailout is imminent. Others suspect that Prime Minister Mariano Rajoy will wait until after the Spanish elections on October 21st.

Rajoy has gone to great pains to dispel talk of a bailout, insisting Spain’s finances are not in a state that would require aid. (Read more: Rajoy Comments Spark New Spain Bailout Confusion)

In a note, Nick Spiro Managing Director at Spiro Sovereign Strategy said the auction, although a mixed bag in terms of yields continued to be fairly well received because of investors' firm belief that Spain would indeed request help from the European Central Bank.

Spiro said “the markets seems to be less concerned with the game of chicken between the ECB and Spain and are instead taking comfort from the expectation that Madrid will shortly seek a sovereign bail-out.” But he warned that over-optimism regarding the program could be a nasty shock in terms of its effectiveness of the ECB’s Outright Monetary Purchase program.

The plan was unveiled by Mario Draghi last month and would see the ECB buy unlimited amounts of short-term bonds of a struggling country. Critics have argued that the plan amounts to delaying a full solution to the euro zone debt crisis once again, and say it does not help in bringing about much-needed structural changes in certain euro zone countries.

“Spain's debt market is currently in a state of limbo. It is being propped up by an ECB-backed bond-buying scheme that has yet to be put into practice. The prevailing view seems to be that if Spain does not seek a sovereign bail-out by the end of October, then sentiment will turn sharply,” Spiro said.