Italy debt risk premium at 10-week low on data, ebbing crisis
* Italian Q2 data signals recession may be bottoming out
* Scant supply, ECB policy outlook help Italian bonds
* Bunds fall to day's low on upbeat factory activity data
* ECB's Praet affirms bank could cut rates further
By Emelia Sithole-Matarise
LONDON, Aug 6 (Reuters) - Italy's debt risk premium fell to 10-week lows on Tuesday after data showed the economy shrank less than expected in the second quarter and as a political crisis waned.
The gap between 10-year Italian and German borrowing costs fell to its lowest since May 29, around 255 basis points. This left the spread close to two-year lows just below 250 bps as an upbeat factory activity numbers from Germany pushed Bund yields higher.
Comments by European Central Bank policymaker Peter Praet affirming that its monetary policy would remain accommodative also underpinnned demand for the region's lower-rated bonds.
Italian 10-year yields were 4 basis points lower on the day at 4.25 percent after data showed second quarter gross domestic product fell 0.2 percent following a 0.6 contraction in the first quarter, beating market forecasts.
A dearth of Italian bond sales in August was also prompting investors to reinvest 8.39 billion euros in coupon payments made last week.
Italy's 10-year yields hit their lowest in six weeks on Monday after upbeat services data and as the threat of a government crisis ebbed after former premier Silvio Berlusconi, whose conviction for tax fraud was upheld by the supreme court last week, said the coalition should continue.
The Senate could take until the end of the year to vote on whether to evict Berlusconi from parliament - a move some analysts said could renew strains within the shaky coalition.
"The political risk has been moved down the road...and that creates a space in which BTPs benefit from the relative calm in the market. And the data that has come out from the euro zone in general has been quite positive," said Sunrise Brokers strategist Gianluca Ziglio.
"But I don't see it as a prudent thing to continue to amass BTPs the way Italian banks have been doing," he said.
Ziglio, citing any coalition tensions over whether Berlusconi keeps his seat in parliament, said he would use a fall in the BTP/Bund spread to 250 bps as an opportunity to sell Italian debt.
Spanish 10-year yields followed Italian counterparts lower, and were last 3 bps down at 4.55 percent. The ECB's accommodative policy as well as its as-yet-untested bond purchase scheme have helped Italian and Spanish bonds weather simmering political tensions in the two countries.
The modestly improved outlook for the euro zone periphery and better-than-expected German data cooled demand for German Bunds, the region's safe-haven.
Bund futures were down 10 ticks at 141.12 with German 10-year yields up 1 bps at 1.70 percent.
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