EURO GOVT-Italian bonds firm as auction goes smoothly
* Italy sells bonds at higher yields, demand stays strong * Some analysts recommend buying on dips before Italy polls * Demand firms at German 2-year bond auction By Marius Zaharia LONDON, Feb 13 (Reuters) - Italian bond prices edged up on Wednesday as buying interest from yield-hungry investors offset selling pressure from those concerned the country's economic reforms could flag after an election later this month. Wide swings in Italian debt prices this month are likely to continue at least until the Feb. 24-25 polls, analysts said. Demand levels held firm earlier when the country sold about 6.6 billion euros worth of debt of various maturities, including the first 30-year tap since May 2011. Yields rose from previous sales, however. Italian debt has been under selling pressure recently as a comeback in polls by former Prime Minister Silvio Berlusconi's party raised the prospect of a fragmented parliament that could slow the reforms. Final polls showed Berlusconi's centre-left opponents still on course to win the race, although they are likely to have to form a coalition with outgoing premier Mario Monti. Ten-year Italian yields were 5 basis points lower on the day at 4.45 percent - some 30 basis points below February highs, but about 40 basis points above January lows. Shorter-term yields also fell. "There seems to be a return in (positive) sentiment towards the peripherals and on the back of a realisation that political risk is probably being overplayed, we're seeing some asset allocators returning to that market," one trader said, adding volumes in Italian bonds were "quite respectable". Despite renewed buying interest, traders said selling pressure caused by nervousness before elections could return in the next few days. "Some people are going to buy on dips, but it doesn't mean that we won't see more volatility between now and (the end of the month)," a second trader said. DZ Bank strategist Christian Lenk said he said he still saw Italian bonds among euro zone outperformers in the medium term as he did not expect the country to "completely reverse" its economic reforms. "We accept the fact that we will see volatility ahead of the elections. But we think they offer a decent yield pick-up especially as many other houses have turned more cautious," he said. With a similar view, ING strategists also recommend a pre-election rise in Italian yields as a buying opportunity. Spanish 10-year yields fell 8 basis points to 5.26 percent, with traders also citing bargain hunters. Spanish debt outperformed its Italian counterparts as it does not face supply pressure this week. GERMAN DEBT The improved sentiment on the periphery weighed on German debt. Bund futures were 61 ticks lower at 141.94. Ten-year yields rose 5 bps to 1.69 percent. Germany sold 5 billion euros of new two-year bonds, carrying a 0.25 percent coupon. The previous two Schatz benchmarks had a zero percent coupon. Demand was better than at a previous auction in early January as yields rose by 20 basis points. Two-year German yields ended 2012 in negative territory due to fears at the time that potential large-scale automatic spending cuts in the United States could have sent the global economy into a deep recession. Those cuts have been avoided, or at least delayed, whetting investors' appetite for riskier assets. Slightly-better-than-expected economic data and growing confidence in the euro zone banking system as lenders repay crisis loans to the European Central Bank have also led to rising money market rates and higher short-term German yields. "Yields have gone up, people are locking in their returns ... I don't think the world is in a situation where people are going to abandon German debt," said Alan McQuaid, chief economist at Merrion Stockbrokers in Dublin.
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