Hot French Export: The Sarkozy Trade

Dealbook March 29, 2012

If Nicolas Sarkozy loses France's presidential election, he may want to set up a hedge fund.

Last year, the French president suggested that European banks could make profits by taking out cheap loans from the European Central Bank and investing that money in the region's government bonds. Central bank data released on Wednesday underscored just how popular that trade had become, particularly in Italy and Spain, both of which were struggling to sell bonds at reasonable interest rates at the start of this year.

The data show a huge revival of demand among Italian and Spanish banks for government bonds after the central bank made cheap three-year loans available in December last year, and again in February. In February, Italian banks bought 23 billion euros of European government bonds, taking the total for the first two months of the year to 45.6 billion euros. In the last half of 2011, when doubts about the future of the euro escalated, Italian banks only bought 12.4 billion euros of government bonds. The banks surveyed are mostly buying bonds issued by the government of the country they are based in, analysts say.

"It is very clear supporting evidence for the Sarkozy trade," said Julian Callow, an analyst with Barclays in London.

Spain has also benefited. Spanish banks bought 38.7 billion euros of government bonds in the first two months of this year, compared with 13.3 billion euros in the second half of last year.

The bond buying, however, raises questions about efforts of European policy makers to shore up governments with shaky finances. The banks' bond purchases have helped interest rates on government bonds to fall, which makes it look like confidence has returned. But banks may lose appetite for government bonds once the cheap central bank loans run out, which may cause interest rates to go back up.

Still, big bank purchases may continue for a while. Mr. Callow notes that the second batch of central bank loans took place at the end of February, so its effect may not be fully reflected in the impressive February totals. As the second set of loans kick in, the "data could become a bit more positive still," he wrote in a research note Wednesday.

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Hot French Export: The Sarkozy Trade

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