EURO GOVT-Political tensions prompt profit-taking in Italy

Thu Dec 6, 2012 7:35am EST

Related Topics

* Italian debt under pressure on political tensions

* ECB expected to stay on hold; Bund in ranges

* Investors continue to seek French bonds at auction

By Ana Nicolaci da Costa

LONDON, Dec 6 (Reuters) - Italian and Spanish government bonds fell on Thursday as political developments in Italy prompted investors to cash in on a recent rally, giving German Bunds a lift before a European Central Bank decision.

Italian premier Mario Monti's government survived a Senate confidence vote on economic measures but a walkout by Silvio Berlusconi's PDL party indicated political tensions were rising before an election expected in March..

Italian debt came under selling pressure and Spanish debt followed suit a day after a disappointing Spanish bond sale also underscored the limits of a bond rally, which traders said was based on sentiment after a deal on Greek debt rather than on economic fundamentals.

"After the recent rally this is very good opportunity to sell Italy," one trader in Milan said.

Ten-year Italian government bond yields increased 12 bps to 4.59 percent and the Spanish equivalent rose 12 bps to 5.54 percent.

German Bund futures were 10 ticks higher on the day at 143.38. The December contract rolls over on Thursday and the March contract was up 13 ticks on the day at 145.23.

ECB VERDICT

The sell-off in peripheral bonds came just before the ECB was due to announce the results of a policy meeting. It was likely to keep interest rates on hold but may offer clues on its policy path for next year with updated forecasts likely to present a grim outlook for the euro zone economy.

Analysts expect the ECB will also reiterate that an aid request is a pre-requisite for the bank to buy the bonds of indebted euro zone states.

"The ECB will keep the door open for maybe another refi rate cut early next year," Patrick Jacq, European rate strategist at BNP Paribas said.

"I think there will be no change from the latest press conference in early November. That's probably why the market is relatively stable today ahead of the meeting."

On Nov. 8, ECB President Mario Draghi said the euro zone economy showed little sign of recovering before year-end, leaving open the possibility of an interest rate cut in the months ahead.

"I don't think many people are expecting a cut, but people generally are expecting a slight dovish tone overall," a second trader said.

Long-term worries about the euro zone and more immediate concerns about talks in the United States aimed at averting a fiscal crisis have recently benefited safer government bonds. French 10-year yields hit euro-era lows on Wednesday.

The backdrop helped a 3.97 billion euro sale of French bonds. The Treasury sold at the top of its target range as investors sought the liquidity and safety of the French market, even after Moody's downgraded the euro zone's second largest economy's credit rating last month.

In the secondary market, 10-year French yields were up 2.1 basis points at 2.02 percent.

"Even at 2 percent, (the French yield) might be (at) euro-era lows, but it's still cheaper than German," a second trader said, predicting the premium 10-year French debt offers over Germany would fall further as year end approaches from 69 basis points currently.

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