Italian, Spanish bond yields rise

Shares fell across world markets today while Italian and Spanish bonds came under increased pressure as worries over the future of the euro continued to unsettle investors.

Stress tests for euro zone banks released on Friday failed to stem the anxiety about a potential Greek sovereign debt default. Fears of the debt crisis spreading to other countries in the euro zone led to a spike in Spanish and Italian bond prices.

The Euro also fell against other major currenicies while gold prices climbed to a new record high.

The yield on Spanish 10-year bonds rose to 6.36 per cent in trading, one step closer to the 7 per cent mark above which investors usually lose faith in a country.

Italy's 10-year bond yield broke through 6 per cent today, a euro-era high, Irish 10-year bond yields also climbed , heading above 14 per cent. Two-year bond yields were 0.104 per cent higher to 23.218 per cent.

The rising cost of funds for Italy and Spain is intensifying pressure on euro zone policymakers to come up with a plan to address the debt crisis when they meet on Thursday.

Overall, European stocks lost 1.7 per cent, their lowest levels since early December, while the MSCI world equity index shed 1.4 per cent.

The Iseq index succumbed to the sharp downward momentum evident across global equity markets today, shedding more than 1 per cent to 2,825.75.

In the US, as the clock ticks towards the August 2nd deadline for an increase in the statutory $14.3 trillion borrowing limit, investors were nervous about the stalemate in Washington as well as concerned about the euro zone.

The Dow Jones industrial average dropped 153.98 points, or 1.23 per cent, to 12,325.75 in early trading. The Standard &Poor's 500 Index dropped 15.99 points, or 1.21 per cent, to 1,300.15. The Nasdaq Composite Index dropped 37.59 points, or 1.35 per cent, to 2,752.21.

The euro was down 0.6 per cent versus the dollar and the yenat $1.4072 and 111.30 yen, respectively. The safe-haven Swiss franc hit record highs against the dollar and euro.

Spot gold rose to an all-time peak above $1,600 an ounce after rising more than 3 per cent for a second straight week last week, a feat it has not achieved since February 2009.

Failure to address the potential for a Greek default, as well as persistent fears that contagion - in the form of unsustainable bond yields - could spread to Italy was set to underpin investor sentiment.

"The market is going to keep an eye on sovereign debt, and especially the spreads," Frank Vranken, chief strategist at BNP Paribas Private Banking, said.

Banking analysts at Espirito Santo described last week's stress test as "a missed opportunity to address sector - and indeed sovereign - concerns" as it failed to include €4.8 trillion of wholesale/interbank maturities.

The omission was "crucial... given the structural over-reliance on wholesale funding and prospect for real economic feedback from the sovereign 'crisis'," they said in a note.

Based on the stress test results, large-cap European banks would need €23 billion of fresh capital in the event Greece, Ireland and Portugal default and "suffer real economic negative feedback loops".

"Adding Spain and Italy into the analysis suggests a capital need of €61 billion," they added.

In spite of the recent stock price falls and in the face of other macroeconomic headwinds, including weakening economic data and political wrangling over the US debt ceiling, analysts at UBS said they remained "neutral" on equities.

"After a bounce, markets remain rangy and directionless. Concerns about sovereign risk and the 'soft patch' act as restraints on risk-taking, while good corporate earnings and undemanding equity valuations offer resistance to deeper sell-offs," they said in a note.

Reuters