LONDON Spanish and Italian bonds rose further on Monday, led by shorter-dated paper which has met revived demand on prospects of eventual ECB buying but details of the promised anti-crisis steps were seen key for more gains.
Two-year Spanish yields have more than halved from euro-era peaks above 7 percent hit on July 25 to 3.42 percent since ECB President Mario Draghi said on Thursday bond purchases under new measures being hammered out would target shorter-dated debt.
The gap between two- and 10-year Spanish yields hit its widest in the euro era at 338 basis points and that differential could widen to 400 bps in coming weeks, according to RBS rate strategist Harvinder Sian.
"Two-year Spain (yields) can get down to 2 percent...The rally can go on for a couple of weeks but we need to see some details from the ECB in terms of what exactly they are planning. That will be the key," Sian said. "Particularly we're waiting to see the maturities they are willing to buy."
Spanish 10-year yields fell 14 bps to 6.8 percent, retreating further from euro-era highs of 7.78 percent hit early last week, with equivalent Italian yields 6 bps lower at 6.0 percent. Two-year paper yielded 3.11 percent, down more than 20 bps on the day.
Strategists and traders said steepeners - bets that short-dated bond prices would rise faster than long-dated ones - were the position to take on Spanish and Italian debt.
"We like 2-5s, 2-10s steepeners because they can perform I think very well both in a bullish and a bearish market," BNP Paribas strategist Matteo Regesta said.
Sentiment in Spanish and Italian debt markets - at the forefront of the three-year debt crisis - has improved as investor conviction has grown that the ECB will eventually intervene to lower the two countries' borrowing costs provided Madrid and Rome request help from the bloc's bailout funds.
Spanish Prime Minister Mariano Rajoy signaled for the first time on Friday that he may seek a full-blown aid package but said he had not yet made a decision.
However, questions remained. Germany remains opposed to the ECB resuming bond purchases. The issue of how the euro zone planned to boost the resources of its yet-to-be ratified ESM rescue fund was also unresolved.
Soma analysts said the ECB's conditional pledge suggests the situation in Spain might have to deteriorate and borrowing costs rise further before Madrid seeks aid, opening the door for ECB intervention, according to some analysts.
Bund futures clawed back some ground on bargain hunting after their biggest daily fall since October 2011 on Friday after stronger than expected U.S. jobs data and as investors overcame initial disappointment that the ECB was not immediately buying Italian and Spanish bonds.
September Bund futures rose 25 ticks on the day to settle at 143.20, having fallen more than 200 ticks at one point on Friday, while 10-year German bond yields were down 3.4 bps at 1.4 percent - not far from a record low of 1.126 percent hit in July.
"We've seen some short-covering in Bunds after the sell-off last week, whereas the periphery is driven by what Draghi said - that he will focus on short-dated (bonds)," a third trader said.
"There are flows into two- and three-year bonds, but not into the 10-year. However there are no sellers in the 10-year either."
(This story has been refiled to remove formatting glitch)
(Editing by Nigel Stephenson)