Despite Portuguese Bailout Deal, Expected To Push Country Into 2 Year Recession, Yield On Its 3 Month T-Bill Auction Rises To Record

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Even though Portugal announced somewhat sparse details of a €78 billion IMF/EU bailout late yesterday, the market was only modestly impressed, and even though Portuguese CDS dropped 29 bps to 620, according to CMA at 10:10 a.m. in London, the country still saw the yield on its just issued 3 Month T-Bills surge to a fresh all time record. From Reuters: "Portugal sold around 1.12 billion euros ($1.66 billion) in three-month T-bills on Wednesday, above the indicative offer, with yields rising from an auction late last month even after the country said it agreed a 78 billion euro EU/IMF bailout. The average yield rose to 4.652 percent from 4.046 percent in an auction on April 20. Portuguese debt premiums in the secondary market had risen sharply in the past two weeks on jitters about a possible Greek debt restructuring and concerns about Portugal's own fate, but retreated after the bailout deal." And to confirm that the market no longer really beleives in the bailout fairy, the Bid to Cover dropped from 2 to 1.9.

As for the actual bailout, the conditions attached to it appear set to push the country into a recession lasting at least two years:

Conditions attached to a 78 billion euros bailout of Portugal's debt-ridden economy are likely to propel it into a deep recession for two years, an official source said on Wednesday.

Caretaker Prime Minister Jose Socrates announced late on Tuesday the country had reached a three-year bailout agreement with the European Union and International Monetary Fund after weeks of negotiations with the third euro zone country to seek foreign assistance, after Greece and Ireland.

European Union and IMF officials were due to meet Portugal's main opposition on Wednesday to secure its agreement for the bailout terms, with elections due in a month.

Socrates said the agreement represented a victory for Lisbon, as it avoided very tough measures which Greece and Ireland were saddled with when they were bailed out last year.

But an official source told Reuters the austerity measures to be included in the deal, such as higher taxes, point to a "contraction of 2 percent in gross domestic product in 2011 and in 2012".

That will make it yet more challenging for the heavily indebted country, which has had some of the lowest growth rates in Europe for a decade, to ride out its crisis and return to financial health.

One wonders then just how the country is supposed to grow out of its insolvency. But that's a logical question for another day. As for some of the bailout details:

Lisbon won some leeway for its austerity drive from its lenders. This year's budget deficit target was raised to 5.9 percent of gross domestic product from 4.6 percent previously.

That still represents a sharp cut given the deficit totalled 9.1 percent of GDP last year and, under the deal, it must be lowered to 4.5 percent of GDP in 2012 and 3 percent in 2013.

The bailout deal includes up to 12 billion euros for the banking sector to recapitalise and orders banks to raise their core Tier 1 capital ratios gradually to 10 percent by the end of 2012, the official source said.

It also envisages 5.3 billion euros in privatisation revenues until 2013.

The package will need broad cross-party support because the collapse of Socrates' government last month means the winner of a June 5 snap general election will implement it.

Opposition Social Democrat leader Pedro Passos Coelho was due to meet with officials from the EU and IMF later.

Elsewhere, the market continues to wait for Greece's bankruptcy with baited breath, which will usher in the world of falling dominoes across the European landscape. Just a matter of time. But at least the EURUSD surged on this latest bailout, despite European retail sales plunging to a 16 month low of -1.0% on expectations of -0.1 even as the previous read was revised higher from -0.1 to 0.3%. Did someone not tell Europeans about the mysteriou and magical inflation fighting properties of the iPad2?