Analysts said that while it was premature to expect a downgrade of Italy's credit rating on Friday, a deteriorating economic outlook had raised concerns about the ratings outlook. "There's enough goodwill following the budget deficit agreement with the EU last year to not downgrade Italy this time," said Ross Hutchison, rates portfolio manager at Aberdeen Standard Investments.
Fitch rates Italy BBB, two notches above the dividing line that separates investment grade bonds from non-investment grade territory. Moody's will review Italy ratings in March, S&P Global in April. Italy's economy slipped into recession at the end of last year and many economists have downgraded their 2019 growth forecasts, raising concern about a weak fiscal position and the country's longer-term ratings outlook.
Even a modest increase in the probability of a rating downgrade should not be underestimated, Goldman said, because decisions by ratings agencies can shift demand for developed market bonds when a rating approaches the threshold between investment grade and high yield. Italian two-year bond yields were last up 7 bps on the day at 0.54 percent. Ten-year yields rose 4 bps to 2.87 percent, pushing the gap over German Bund yields to 276 bps versus 269 bps late Thursday. German 10-year Bund yields fell to 0.097 percent, holding lower after a fall in the closely watched Ifo business sentiment index.
The Ifo economic institute said its business climate index fell to 98.5, the lowest level since December 2014, suggesting company executives expect growth in Europe's biggest economy will continue to lose momentum. The yield fall in safer government bonds gathered pace after a Bloomberg report said the European Union is drafting a retaliatory tariff list that includes US firms Caterpillar and Xerox, if US President Donald Trump imposes tariffs on European cars. French and Dutch 10-year bond yields were down about 3 bps each, while British gilt yields fell 4 bps.