Euro zone nations turn to hedge funds to meet borrowing needs

Mon Nov 21, 2016 9:21am EST
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By Abhinav Ramnarayan and Helen Reid

LONDON (Reuters) - Euro zone governments are increasingly relying on hedge funds to help them meet their borrowing needs, which risks leaving them vulnerable to a debt market sell-off driven by a class of investors dubbed "fast money" for their speculative approach.

With banks playing a less active part in the sovereign debt market because of pressures on their balance sheets, several countries have turned to hedge funds to sell their targeted amount of bonds, according to data, officials and bankers.

Hedge funds tend to look for quick returns on investments, which could increase the volatility of government bond markets as they face several tests of sentiment in coming months.

A populist revolt that propelled Donald Trump and the Brexit vote is sweeping the developed world and threatens to unseat established leaders in an Italian referendum next month, and Dutch, French and German elections in 2017.

Any such political shocks, compounded by rising bond market volatility, could potentially trigger a sell-off - a risk that stirs painful memories of the region's debt crisis in 2010-2012 when a bond rout led to several countries unable to pay their debts and raised fears the euro zone could unravel.

Hedge funds have been particularly active in the market for long-dated bonds as they offer the higher risk and reward that they traditionally seek.

Spain, Italy, Belgium and France have sought to lock in record-low borrowing rates this year with 50-year bond issues for 3-5 billion euros ($3.2-$5.3 billion). Each of them reported a historically high allocation of 13-17 percent to hedge funds.

By contrast, just three years ago, Spain, Italy and Belgium were selling only 4-7 percent of their syndicated bond sales to that community of investors, according to data from IFR, a Thomson Reuters company. There is no comparable data for France, which does not routinely record hedge funds' allocation.   Continued...

A two Euro coin is pictured next to an English ten Pound note in an illustration taken March 16, 2016.  REUTERS/Phil Noble/Illustration/File Photo