The Long-term refinancing operations (LTRO) of the European Central Bank (ECB) are designed to provide stability to Europe's banking sector and keep sovereign bond yields down to sustainable levels (below 6% in the case of Spain). The mechanism is the ECB supplying funds to the banks at 1% for up to three years.
The banks in turn have to post collateral to secure these funds. The lower the quality of this collateral, the bigger the haircut' ie, the lower the amount that can be borrowed. These funds can find their way into sovereign bonds, which carry a higher yield than 1%, allowing the bank to make a profit on the exercise. This buying should also push up prices and force down yields.
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