Greek 'exit' pressures markets

European shares sank to a four and a half month closing low today in a broad-based sell-off as political deadlock in Greece raised the prospect of the country's exit from the euro zone.

Concerns over China's economy also undermined sentiment.

The FTSEurofirst 300 index of top European shares provisionally ended down 1.7 per cent to 1,005.33, its lowest close since December 30th.

The Euro STOXX 50 volatility index, Europe's main gauge of investor anxiety, meanwhile, jumped almost 12 per cent.

"With no real positives to be drawn from the global economic picture whilst the euro zone crisis grows deeper by the day, investors are voting with their feet," Mike McCudden, head of derivatives at Interactive Investor, said. "Some shares are indeed starting to look very cheap but investors continue to take a risk-off approach until the storm has passed."

US stocks also fell today, tracking global equity markets lower. The general move out of risky assets, such as equities and commodities, pushed the S&P 500 just below an important support level at 1,340 which, if broken on a sustained basis, could result in a steeper pullback for the index.

The Nasdaq briefly fell 1 per cent as a political impasse in Greece heightened concerns about Europe's debt crisis and fears mounted about an economic slowdown in China.

The Dow Jones industrial average was down 139.97 points, or 1.09 per cent, at 12,680.63. The Standard & Poor's 500 Index was down 14.87 points, or 1.10 per cent, at 1,338.52. The Nasdaq Composite Index was down 29.00 points, or 0.99 per cent, at 2,904.82.

Greece's president met little enthusiasm from political leaders today to avert new elections, reinforcing fears the country was on the path to bankruptcy and an exit from the euro zone. The consequences of such an event are unknown. Investors fear it could prompt wider instability in Spain and Italy.

"The growing possibility of Greece saying bye bye has put the entire region into the realm of the unknown in terms of the economic ripple effects," said Peter Boockvar, equity strategist and portfolio manager at Miller Tabak in a note. "Spanish and Italian bond yields are spiking and the cost of insuring against a Spanish default is now more expensive than for Hungary."

The country's uncertain future as a euro member pushed Italian and Spanish borrowing costs higher at debt sales today, while investors seeking refuge in higher-rated government paper further drove German six-month yields towards zero at auction.

The two largest countries most vulnerable to a worsening of the euro zone debt crisis tapped the markets as investors globally dumped riskier assets, unnerved by the prospect of fresh elections in Greece that would probably hand first place to a leftist anti-bailout party.

Both Italy and Spain, which JPMorgan said could find themselves cut off from market access if Greece were to leave the euro, also saw a sharp rise in the risk premium their 10-year bonds pay over German Bund ahead of the auctions.

Italy's yield gap with Germany topped 450 basis points today, easing slightly after the sale as Rome raised the top planned amount of €5.25 billion in bonds and paid cheaper yields to sell its three-year benchmark compared with what was available on financial markets.

Spain's spread against Germany hit a new euro lifetime high of around 490 basis points after Madrid failed to persuade investors with a new plan presented on Friday to clean up its banks over soured property loans.

"The (Italian) Treasury can take some comfort from the fact that the (three-year) yield ... came in a tad under secondary market levels," said Nicholas Spiro at Spiro Sovereign Strategy."This was a challenging auction given the rapidly deteriorating external backdrop, so the result is, relatively speaking, not bad at all. However, the degree of differentiation between Italy and Spain is becoming less pronounced as the Greek crisis escalates."

The Bank of Italy said today the country's debt hit a new record in March at €1,946 billion. Italy has completed 44 per cent of an estimated annual bond issuance target of around €215 billion. Madrid is just shy of 54 per cent of its yearly plan ahead of an auction on Thursday of 2015 and 2016 bonds for up to €2.5 billion.

A drought of medium and long-term redemption, or repayments to holders, in May and June heightens Rome's funding challenge, as it leaves Italian investors without flows to reinvest in domestic bonds.

Italy paid 3.91 per cent to sell three-year paper, with a fractional increase from a mid-April sale enough to push the yield to a new high since January. Solid demand helped the Treasury sell the top amount of €3.5 billion at a higher price than the one prevailing on the secondary market - where the bond had seen its yield jump by more than a third of a percentage point from Friday.

"Given the overall backdrop, I think they'll be happy with it but the overall trend is of higher rather than lower yields," said Alan McQuaid, at Bloxham Stockbrokers in Dublin.

Italy also sold three longer-dated lines it no longer issues on a regular basis.

Spain's 12-month borrowing costs rose to 2.99 per cent from 2.62 per cent last month, while it paid 3.3 per cent on its 18-month paper, up from 3.1 per cent last month.

By comparison, Italy paid 2.34 per cent on Friday to sell one-year bills at a well-bid €10-billion short-term sale, with a half percentage point drop from a mid-April auction.

Reuters