Spain and Cyprus were both targets of downgrades from Moody's on Wednesday, in the wake of a Fitch downgrade for the former and Moody's bank downgrades for the latter. Bond yields topped 7% for Spain, and in Italy's first bond sale since Spain's bailout yields surged.
In Greece, Alexis Tsipras, the Syriza party leader, hopes to ditch austerity measures without driving his homeland from the euro, betting that the cost to other member nations will be too high to force an exit.
Bloomberg reported Thursday that Moody's cut Spain's rating late Wednesday to one notch above junk—a three-step drop—and also cut Cyprus from Ba1 to Ba3 after cutting the ratings of three of the country's banks on Tuesday, over concerns that a Greek exit from the euro zone would leave it in an increasingly precarious position.
Cyprus could be in need of its own bailout before Greek elections are held Sunday, according to an Associated Press report. Finance Minister Vassos Shiarly suggested in the report that the country might have to seek a bailout before Greek elections are held on Sunday, although he was optimistic for favorable terms rather than harsh austerity measures. Cyprus carries a low fiscal deficit and public debt comapred with other members of the eurozone.
The action by Moody's boosted the yield on Spain's bonds above the level seen as sustainable; on 10-year bonds it rose 25 basis points to hit 7.2% on Thursday, a euro-era high, and two-year yields increased a similar amount.
In a Reuters report, Padhraic Garvey, head of investment grade strategy for ING, was quoted saying, "Spain is teetering on the edge of investment grade status and the risk in the near term is that investors begin to trade the risk they are cut to speculative grade. And if they do get cut further then you'll get another wave of selling."
It remains to be seen how much intervention will come from the other members of the eurozone, when just Wednesday Prime Minister Mariano Rajoy attacked central banks for failing to buy peripheral zone debt. The bailout agreed on for Spain over the weekend is aimed just at its financial sector and does not carry any additional harsh conditions, unlike the Greek bailout. Should matters worsen, Spain could be in the market for a full-scale bailout.
"If there's no reaction from Europe, it's a likely path [that yields will continue to rise]," Peter Schaffrik, head of European rates strategy at RBC Capital Markets, said in the report. "One of the only things we see that can change the situation on a lasting basis is some form of debt mutualization, which the Germans are reluctant to do." Spain is scheduled to sell bonds in the market next Thursday, though details have not yet been announced.
Italy, meanwhile, sold bonds on Thursday and managed to find buyers for 4.5 billion euros' worth ($5.653 billion) of debt. While demand was good, yield was up to its highest level since December. In a Bloomberg report, Markus Huber, head of German sales trading at ETX Capital in London, was quoted saying, "Today's auctions most likely won't manage to restore much calm in the markets, instead it rather reflects quite well how risk averse investors have become and how uncertainty within the eurozone and the European financial crisis itself continue to dominate the headlines and market action."
Gary Jenkins, director of Swordfish Research, was not optimistic about either country's chances of emerging unscathed from the financial crisis, saying in the report, "We are fast approaching the point where both Spain and Italy may have to be removed from the market."
