Moody’s warns of possible Portuguese credit rating downgrade as Europe’s debt crisis spreads

Moody’s warns Portugal of possible debt downgrade

LISBON, Portugal — Portugal, striving to avoid becoming the next victim of Europe’s debt crisis, was put on standby for a credit rating downgrade on Wednesday even as the government managed to raise some euro500 million ($654 million) on the bond markets.

Moody’s Investor Services warned it may downgrade Portugal’s Aa2 debt rating in the next three months, a week after its rival Standard & Poor’s cut its rating and stoked market concerns that the crisis in Greece was spreading to other financially troubled countries in the eurozone.

Greece is getting a euro110 billion package of bailout loans from the International Monetary Fund and the other 15 countries in the euro in hopes of preventing a eurozone-wide government debt market meltdown.

Moody’s cited a weakening in Portugal’s public finances as well as its long-term growth prospects. “The review for possible downgrade will consider a repositioning of Portugal’s ratings to reflect the potentially lasting deterioration in the government’s debt metrics,” says Anthony Thomas a senior analyst at Moody’s.

“In the context of a small and slow-growing economy, such debt metrics may no longer be consistent with a Aa2 rating,” he added.

Moody’s said Portugal’s rating could fall by one, or at most two, notches and that the review is expected to be concluded within three months.

It also said that higher market borrowing costs may make it more difficult for the country to fund its debt commitments for some time to come even though it said the country’s debt service remains “very affordable in the near to medium term.”

The Moody’s warning came after the country raised euro500 million ($654 million) in its bond first issue since last week’s downgrade from Standard & Poor’s, which has pushed the country’s borrowing costs higher. That has generated fears that Portugal, like Greece, may have to get some sort of bailout from its partners in the eurozone and the International Monetary Fund.

For now, though, demand for Portuguese debt remains healthy — the Portuguese debt agency said there was enough interest to sell almost twice the amount of the six-month Treasury bills on offer Wednesday.

Nevertheless, Portugal is paying an average interest of 2.955 percent on the bills — about four times higher than in the last similar offering in early March — reflecting market concerns about the government’s ability to service its debt.

A further spike in Portugal’s borrowing costs was seen Wednesday in the wake of the Moody’s announcement.

The interest rate gap, or spread, between Portuguese and benchmark German 10-year bonds rose 40 basis points, or 0.4 percentage point — that means Lisbon would have to pay just over a ten-year high rate of 5.8 percent in interest to borrow on the markets.

“Having to pay a lot higher rate is a worry,” said Ben May, eurozone economist at Capital Economics in London, though he added that — for the moment — paying that rate is not beyond Portugal’s reach.

Portugal’s budget deficit hit 9.4 percent of gross domestic product last year, among the highest of the 16 euro countries — that’s why investors are worried that Portugal may be next in the firing line in Europe’s debt crisis even though its 2009 budget deficit was way short of Greece’s massive 13.6 percent.

By contrast, the European Union’s ceiling is for a deficit of 3 percent of GDP.

Portugal has to refinance euro4.6 billion of bonds by May 20, a day after euro8.5 billion in Greek bonds matures. Some euro20 billion of Portuguese debt comes due this year, most of it Treasury bills. The government debt agency has previously said it intends to issue debt worth up to euro10 billion in the second quarter.

So far this year Portugal has experienced no liquidity problems and no difficulty raising money on international markets. It has already raised euro4.5 billion from bond issues in 2010.

The European Commission on Wednesday revised upwards Portugal’s 2010 growth forecast, to 0.5 percent from 0.3 percent. The government, in its austerity plan, foresees 0.7 percent growth this year.

Finance Minister Fernando Teixeira dos Santos welcomed what he called “the positive tone” of the Commission’s new forecasts and said he hoped financial markets would “see in them a reason for tranquility.”

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Pylas contributed from London.