EU bonds fall after MSCI declines to include them in sovereign debt indices

Bonds issued by the EU weakened on Thursday after MSCI said it would not include them in its sovereign bond indices, marking a blow to Brussels’ efforts to establish itself as a mainstream government bond issuer. 

The index provider said EU debt would “remain ineligible” for its benchmarks following a “bifurcation of opinion” in a consultation proposing their inclusion. The yield on benchmark 10-year EU bonds, which moves inversely to prices, rose 0.06 percentage points.

The EU has been pushing to have its bonds reclassified as sovereign debt since the huge expansion of borrowing under the €750bn NextGenerationEU programme, which began in 2021. It has argued that its treatment as a “supranational” issuer has driven up its borrowing costs relative to those of individual member states. Inclusion in widely followed bond indices such as MSCI’s would mean that investors that track the benchmarks would in effect be forced to buy Brussels’ debt.

The decision also came 13 days after MSCI’s self-imposed deadline, on the heels of far-right parties making big gains in the EU parliamentary elections last week, which could make it harder for the EU to get support for future common debt sales.

The yield on the EU’s 10-year bond is 3.12 per cent, compared with 2.55 per cent for Germany’s, despite a triple-A credit rating for both issuers by two of the three leading rating agencies.

MSCI’s announcement surprised many investors who had anticipated that EU bonds would be included following the consultation, sparking concerns that other index providers will follow suit. 

“This was not in line with our or the market’s expectations,” said Jussi Harju, SSA strategist at Citigroup, who added that MSCI’s move could “dissuade other index providers from even launching such consultations in the near term”. 

ICE, which consulted on including EU bonds in its sovereign indices in April, is expected to announce its decision in August. But analysts say inclusion in other indices, such as those provided by Bloomberg, Barclays, FTSE or S&P Markit, would lead to some of the largest flows.  

Ninon Bachet, European rates strategist at Société Générale, estimated that if the leading index providers reclassified the EU as a sovereign issuer, it could lead to between €5bn and €10bn of fresh flows into EU bonds.

FTSE Russell, which manages the widely followed World Government Bond index, said EU bond index inclusion was “on its radar” and that it was “watching this discussion evolve”. 

An investor survey carried out by Brussels last year found that sovereign index inclusion was thought to be the “single most important remaining step” in order for EU bonds to trade and price similarly to European government bonds. 

The EU’s total debt pile has grown to about €500bn, making it the sixth-largest in the Eurozone behind France, Italy, Germany, Spain and Belgium.

The EU has said it will issue €150bn of bonds in 2024, mostly under NextGenerationEU, which was designed to help economies recover from the Covid-19 pandemic and support Europe’s green and digital transitions.

However, debt sales under the programme are scheduled to end by 2027, adding to concerns about classifying the EU as a sovereign issuer.

“I think there might be concerns about liquidity due to a lack of issuance plans past 2027,” said Tomasz Wieladek, chief European economist at T Rowe Price. “When you want to put an issuer in an index you want to have clarity that they will be issuing for a while in the primary market — and that clarity just isn’t there.”

However, MSCI said it would revisit its decision in the second quarter of 2025, leaving some analysts hopeful that it is still a matter of time before EU debt is added to government bonds indices.

“Clearly, the MSCI decision is a blow to the EU’s hopes of inclusion in Eurozone sovereign bond indices in the short term but, in the longer term, this could still prove to be a speed bump rather than a permanent roadblock,” said Richard McGuire, head of rates strategy for Rabobank.