Weak German Bund Auction Highlights Euro Fears

Unusually weak demand for German 10-year bonds served as evidence that the reputation of the euro zone’s largest economy is increasingly tarnished by its association with the troubled region, economists said on Wednesday.

Reichstag Parliment building, Berlin, Germany
Maremagnum | Getty Images
Reichstag Parliment building, Berlin, Germany

Germany sold 3.64 billion euros ($4.84 billion) in ten-year bonds for an average yield of 1.98 percent in a top-up auction on Wednesday which saw demand below this year’s average with a bid to cover ratio of just 1.1.

European stocks, US stock index futures and the euro were hit by the auction results.

“It couldn’t have been much worse. We’ve seen failed auctions before, but the scale of failure of this auction is of a different order,” Marc Ostwald, chief economist at Monument Securities, told CNBC.com.

Since the crisis started, German Bunds have rallied as investors shied away from risk; the euro zone’s peripheral economies meanwhile have seen yields on their government debt soar.

While low yields have limited the interest in German bond auctions before, demand at Wednesday’s auction appeared to have been unprecedentedly low. German Bunds are traditionally a safe haven enjoying solid demand.

“It is notable,” Simon Smith, Chief Economist at FXPro said,” but I don’t think it’s a reflection of people shying away from German Bunds. It is more a reflection of extreme positioning.”

Demand at the auction, described by Danske Bank as “the worst on record”, was low due to the country’s association with the euro zone, according to Ostwald.

“How much longer can the euro zone limp along?” he said.

Nervous Markets

That sentiment was echoed by the German debt agency, which said in a statement that the auction result reflected the highly nervous market environment.

The Thanksgiving holiday in the United States as well as general balance sheet deleveraging by major banks to meet capital requirements had also contributed to weak demand, according to economists.

“It comes at a time when banks are being forced to reduce their balance sheets rather than raise capital,” Smith said. “It is a result of capital market positioning.”

Thursday’s Thanksgiving holiday would make markets very illiquid, Ostwald said. “They are trying to keep as flat a book as possible.”

But German Chancellor Angela Merkel’s continued opposition to the idea of issuing Eurobonds means even AAA-rated euro zone countries are now feeling the heat.

On Friday, Fitch warned that the ongoing euro debt crisis may threaten France's triple A rating because of the rise in the country's public debt.

“The markets are getting very fed up with a lot of political rhetoric coming out and decisions being made before the practicality is actually being looked at,” Gemma Godfrey, Head of Research at Credo Capital said.