FT Alphaville " The Italian bid, redux We're sticklers for this stuff - but it's an important point by Societe Generale's analysts on Tuesday: (click charts to enlarge) There's your exosphere-thin trading in Portugal at the moment, incidentally... (while Greece is a PSI haircut parlour game) though that's not our main point. To wit - it's the narrowing in the difference between bid and ask prices on Italian bonds. You can see the acute widening of spreads (in this once deep, highly-liquid, etc, market) in November and December. Which is when banks raced to offload inventory, and foreign holders of BTPs fled, in response to intense price volatility. Also see similar tensions in Spanish and French bond prices over the period, given the generalised dysfunction in markets at the time, "de-euroisation" and so on. So it's another way of looking at the money markets crisis that swept the eurozone in late 2011. The question being what's changed in January? One answer is that the European Central Bank did buck up and provide a bid for Italian bonds in January (though that's not massively apparent from the relatively low weekly totals of the Securities Markets Program in 2012). Another answer might simply be that banks didn't have to sell their Italian bond holdings at short notice after the money market effects of December's LTRO took hold. Anyway, we'd just ask how the recovery in liquidity squares with longer-term changes in demand for Italian bonds. Not just repo demand, but also market- making in general and also this thorny subject of how the late 2011 volatility in Italian debt might scare away holders still. Let's say they're bound by Value at Risk... or in European banks" trading books (including inventory for derivatives dealing etc) as of January 2012 - stressed VaR. It's supposed to toughen up the selection of historical data used to model VaR. Here's a recent bond anecdote, via Chris Whittall of IFR: With Italian 10-year bonds spiking to more than 7% last year, the dislocation of sovereign debt markets has undoubtedly influenced how dealers manage their risk in the rates business. One market-maker estimated that the amount of BTPs he could hold had fallen by a factor of three purely because of the spike in market volatility. The extent to which SVaR is contributing to market volatility is debatable, although many feel it has had a real impact. Not just SVaR though - capital risk charges, EBA buffers, the lot... Related links: Wake up and smell the BTPs - again - FT Alphaville (2011) Is Basel 2.5 hitting the bond market? - FT Alphaville How dealers may have exacerbated the funding crisis - FT Alphaville Why Italy is "Oh, so special" - FT Alphaville This entry was posted by Joseph Cotterill on Tuesday, January 31st, 2012 at 16:57 and is filed under Capital markets. Tagged with bonds, eurozone, government bonds, Italy, portugal, Sovereign debt.