CYPRUS’ recent credit rating cut triggered a drop in the value at which Cypriot bonds are traded, Marios Demetriades, head fund manager at Bank of Piraeus in Nicosia said.
Cyprus’s 10 bond which was traded at 98.553 euros on November 15, fell to a low of 91.234 euros a month later before recovering to 93.155 euros on Wednesday January 4. The value of the 10-year bond peaked on August 20 at 106.374 euros.
“The spreads of the Cypriot bonds, which are the additional yield an investor wants to hold a Cypriot bond instead of a similar German security, started to rise after the Republic of Cyprus’s credit rating was downgraded by Standard & Poor’s,” Demetriades told the Sunday Mail.
The international credit rating agency cut on November 16 the island’s long-term credit rating by one notch to A, citing the vulnerabilities of the Cypriot financial system and contingent fiscal risks.
The extra yield an investor demanded for holding a five-year Cypriot bond instead of a similar German bond was 3.24 per cent on January 4, while in the case of the 10-year bond it was 2.72 per cent, Demetriades said. By comparison, respective Portuguese spreads were 3.92 per cent and 3.71 per cent, while in the case of Slovakia, they were a mere 1.35 per cent and 1.18 per cent, he added.
“The increase is related to one affecting economies of the eurozone periphery,” the Bank of Piraeus fund manager added. “As trading volume for Cypriot bonds is low, a transaction may result in a drop in price which results in an increase of the yield. Cypriot bonds are usually held to maturity as a result.”
For Cyprus it is important to regain its credibility by effectively doing its fiscal consolidation homework to convince financial markets, he added.
Finance Minister Charilaos Stavrakis expects Cyprus’s fiscal deficit for 2010 to have narrowed to 5.5 per cent of gross domestic product from 6.1 per cent in 2009. On December 22, he said it will further drop to 3.8 per cent this year.
“Ireland and Greece took more drastic measures than Cyprus but were unable to convince,” the Piraeus Bank fund manager said.
In the case of Greece, the extra yield an investor wanted on January 4 to hold a Greek five-year bond instead of a German was 12.08 per cent while the Irish spread was 6.30 per cent. This demonstrates that markets are concerned, Demetriades continued, that “Greece will not be able to compete adequately against other eurozone economies”.
Cyprus saw its economy recover at a pace of 0.5 per cent last year after it contracted 1.7 per cent in 2009. It may have to get used to lower growth rates in the future, and must expect it will affect its fiscal situation, he continued. “We should expect that revenue will no longer rise at the same pace as in previous years”.
Finance Minister Charilaos Stavrakis expects the economy to grow 1.5 per cent this year and state revenue to increase by five per cent, boosted by newly-introduced taxes as well a three-per cent inflation rate.
Central Bank governor Athanasios Orphanides has warned repeatedly that inflationary pressures hurt the ability of Cypriot products to compete against those of other euro area countries.
“This makes a new economic development model for Cyprus necessary,” Marios Demetriades said.
“For the debt crisis to be overcome, euro area countries must start consolidating their budgets and bring their public debt under control. In the case of Cyprus, our island must start achieving fiscal surpluses but this is not possible without any structural reforms”.
Cyprus’ public debt, excluding the government’s debt to the Social Insurance Fund, was 61 per cent last year. The debt to the Social Insurance Fund was last year around seven billion euros, which translates to roughly 40 per cent.
