EURO DEBT SUPPLY-Political nerves to cost Italy at sale next week
* Political uncertainty to push up Italian borrowing costs
* Demand seen healthy thanks to ample redemption in Feb
* German sale to benefit from investors locking in profit
LONDON, Feb 8 (Reuters) - Worries about this month's Italian elections may make it more costly for the country to raise funds next week even though plentiful redemptions in February should help to attract demand.
Increased returns offered by two-year bonds are also likely to secure demand at a two-year German bond sale, as investors seek to lock in higher yields after the European Central Bank said monetary policy is accommodative.
Political uncertainty was fuelled by calls for the Spanish Prime Minister Mariano Rajoy to step down over corruption allegations against his party, and a scandal involving Italy's Monte dei Paschi bank also dented appetite for lower-rated debt.
This backdrop forced Spain to pay more to raise funds this week and Italy's borrowing costs are seen rising too at the auction next Wednesday.
Italy will issue between 2.5 and 3.5 billion euros of 2015 bonds and between 1 and 1.75 billion euros of 2026 and 2040 bonds. This is the first time since May 2011 that the Treasury is offering a 30-year BTP in a regular auction.
But demand is still expected to be healthy, helped by nearly 30 billion euros ($40 billion) of Italian redemption and coupon payments due in February, according to Tradeweb data.
Final polls before the Feb. 24-25 vote showed the centre-left is on course to win Italy's election despite a remarkable surge by Silvio Berlusconi, but it is likely to have to form a governing coalition with outgoing premier Mario Monti.
"It's not necessarily that there would be a less constructive outcome of the Italian elections but there are a lot of uncertainties involved," Norbert Aul, rate strategist at RBC Capital Markets said.
He expected a back-up in yields to lure demand even though he was recommending investors reduce exposure to sovereign debtors on the euro periphery after being positive towards those markets for seven months.
"What we have seen already in the Spanish auction - the pullback in yields that we've had made sure that we saw sufficient demand at the auction - there will be something very similar in Italy as well," Aul added.
LOCKING IN RETURNS
Analysts expected ample appetite for Germany's 5 billion euros of two year bonds, betting that investors will want to lock in higher returns.
The sell-off in German debt so far this year has pushed two-year yields to 0.18 percent in the secondary market from as low as -0.045 percent in late December.
"What was important yesterday was the (ECB President Mario) Draghi commentary which said that they would make sure that the stance of monetary policy remains accommodative," said Harvinder Sian, rate strategist at RBS, adding that Draghi had also made stronger comments on the euro exchange rate than the market had expected. "The backdrop is more supportive now."
The ECB will monitor the economic impact of a strengthening euro, ECB President Mario Draghi said on Thursday.
The Netherlands will also sell 2.0 to 3.0 billion euros with the reopening of its 2018 bond next week - the first auction since the Dutch government said it had put together a nationalisation package to prevent SNS Reaal's collapse and shore up confidence in the financial system.
The rescue will add to a budget deficit that is already forecast to exceed European Union targets in 2013 but credit rating agencies S&P and Moody's said on Monday it would not cost the country its prized triple-A rating.
"We will get 30 percent of the DSTA's (Dutch State Treasury Agency) overall capital market funding target over in the next six weeks, which will be weighing on the Dutch bond market," Aul added.
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