Investors can monitor the eurozone debt crisis by watching the relative performance of exchange traded funds that invest in German and Italian government bonds.
Last week, bond giant Pimco launched Pimco Germany Bond Index Fund (NYSEArca: BUND). The new ETF follows the BofA Merrill Lynch Diversified Germany Bond Index and has an expense ratio of 0.45%.
PowerShares DB Italian Treasury Bond Futures ETN (NYSEArca: ITLY) is an exchange traded note already on the market designed to track the performance of the Italian bond market, while the new Pimco ETF will compete with PowerShares DB German Bond Futures ETN (NYSEArca: BUNL).
The spread between Italian and German bond yields has significantly increased over the past few months, reflecting investors’ fears over Italy’s sovereign debt and preference for safer German bonds.
Bond prices and yields move in opposite directions. When yields rise, it means bond investors are demanding higher rates to be compensated for additional risk.
“The spread between 10-year Italian government bond yields and their German equivalent fell on Monday as the appointment of a new Italian Prime Minister eased pressure on its debt markets amid hope of speedy progress on economic reform in the country,” Reuters reported. “The spread between 10-year Italian and German yields narrowed 9 basis points from Friday’s close to around 461 basis points.”
The PowerShares DB Italian Treasury Bond Futures ETN is down about 10% over the past six months, while PowerShares DB German Bond Futures ETN has gained about 12%, illustrating investors’ preference for the safety of German bonds.
However, fears have calmed a bit after Italy’s Senate approved a new budget and Mario Monti took over as prime minister.
ETNs and single country bond index ETFs predominantly consist of the biggest and most liquid bonds in an underlying index. They may also introduce currency risks into a portfolio.
PowerShares DB German Bond Futures ETN
PowerShares DB Italian Treasury Bond Futures ETN
August Koster contributed to this article.