EURO GOVT-Fed signal of slower asset-buying hits bonds

Thu Jun 20, 2013 12:16pm EDT

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* Bunds fall more than a point, hit lowest since February

* Other euro zone debt prices also plunge

* Spanish yields see biggest daily jump since August 2012

* Ten-year yields rise at Spanish auction, demand weaker

By Marius Zaharia and Ana Nicolaci da Costa

LONDON, June 20 (Reuters) - Euro zone debt fell across the board on Thursday and was expected to weaken further after the U.S. Federal Reserve signaled it was ready to reduce its bond purchases if its economic forecasts are met.

Fed Chairman Ben Bernanke said the U.S. economy was growing fast enough to allow the central bank to trim its $85 billion monthly stimulus, with the goal of ending it in mid-2014.

German Bunds saw their biggest daily fall since March, while lower-rated debt yields jumped, with some analysts pointing to risks that higher borrowing costs could bring still-unsolved structural issues in the euro zone back into focus. Ten-year Spanish yields saw their biggest daily rise since August 2012.

"It does seem like we're heading for a period of higher yields after the comments," said Alan McQuaid, chief economist at Merrion Stockbrokers in Dublin. He said the caution was warranted as "the jury is still out on the world economy."

Bund futures were 131 ticks lower at 142.13, having hit 141.95 earlier, their lowest since February.

With Bernanke saying future economic data is key, investors expect increased volatility in the weeks ahead. Sanjay Joshi, head of fixed income at London and Capital, said he was protecting himself from that by switching into shorter-dated assets, which tend to be less volatile than longer-dated ones as the near-term outlook is easier to anticipate.

"Markets will be twitching every single time we get new data... so we stay 3-4 years below benchmark," said Joshi, whose firm manages about $4 billion in assets. He follows Barclays indexes which have an average duration of about seven years.

Ten-year German yields rose 11 basis points to 1.66 percent, while two-year yields rose 8 bps to 0.25 percent. The euro zone money market curve also steepened.

PERIPHERY EXPOSED

Liquidity injections by the world's major central banks and the promise of European Central Bank bond purchases if a country asks for financial assistance have helped to drive the last year's rally in bonds of the euro zone's struggling periphery.

Interpreting Bernanke's comments as the beginning of an end to monetary stimulus in the United States, investors sold lower-rated euro zone debt heavily on Thursday.

Italian 10-year yields rose 30 bps to 4.56 percent, while the Spanish equivalent jumped 34 bps to 4.86 percent. The cost to insure their debt against default also rose.

"The risk is that if bond yields rise more, that in itself is going to compound the issues in the euro zone, particularly in the periphery. It threatens to throw up another mini-crisis in the euro zone," ICAP strategist Philip Tyson said.

At a debt auction on Thursday, Spain sold its maximum targeted 4 billion euros, but 10-year yields jumped and demand as measured by bid/cover ratios was weaker than average.

"The Spanish auction was OK. The cover was down but they sold the full allotment," Marc Ostwald, strategist, at Monument Securities said.

"What we are in for is much wider trading ranges, much greater intra-day volatility and an enormous doubt about where central bank policy is going."

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