Euro zone bonds push higher on Fed stimulus outlook

Wed Oct 30, 2013 8:13am EDT

Related Topics

* German, Italian debt sales meet strong demand

* Fed seen maintaining current stimulus into 2014

* ECB policy outlook also supporting euro zone bonds

By Emelia Sithole-Matarise

LONDON, Oct 30 (Reuters) - Euro zone bonds mostly rose on Wednesday with German and Italian debt sales drawing solid demand as investors bet on the U.S. Federal Reserve keeping monetary policy unchanged after its meeting later in the day.

German Bund futures have risen to two-month highs this week as markets rallied on expectations the Fed will maintain its current pace of bond-buying in a bid to prop up an economy damaged by this month's government shutdown in Washington.

A recent run of mixed U.S. economic data has persuaded many in the market that the Fed will keep to its $85 billion a month bond purchases until at least early next year.

"It looks unlikely that the Fed will back off the tapering plan completely," said Rainer Guntermann, a strategist at Commerzbank, "But any hint that they are pedaling back and that the fiscal uncertainty could have a much more lasting impact on economic activity would be a dovish statement.

"A lot of this postponed tapering should be priced in already ... so we wouldn't be surprised to see at some point and possibly ...tonight as we get into the FOMC a bit of profit-taking."

The Bund future was last 31 ticks up on the day at 141.58, its highest since August, while German 10-year yields were 2 basis points down at 1.72 percent.

Earlier, Germany sold 3.4 billion euros of 10-year Bunds with investors bidding for 1.7 times the amount offered, up from 1.3 the last time the paper was auctioned last month.

ECB POLICY WAGER

Euro zone bonds across the credit spectrum have also been supported by market speculation that the European Central Bank will ease monetary policy further to support a fragile recovery threatened by a strong euro and curb a rise in money market rates as excess liquidity in the euro system dwindles.

Italy's 10-year debt costs fell to a six-month low at an auction of 6 billion euros of medium to longer-term bonds, which also benefited from investors ploughing back some of the 24 billion euros in redemption and coupon payments due this week.

"Demand for both lines was decent as investors seem to have more confidence in the developments of the Italian political situation and redemptions were supportive this week," Newedge market economist Annalisa Piazza said.

"Both lines gave some concession ahead of today's auction and this might have also been a supportive factor."

Italian 10-year yields were 2.5 bps up at 4.17 percent as the market absorbed the issues while equivalent Spanish yields were slightly lower at 4.05 percent <ES10YT=TWEB.

Spain has outperformed Italy in recent days with investors encouraged by data showing the Iberian country exited a two-year recession in the third quarter thanks to strong exports.

Barclays strategists say Spanish yields could trade 20 to 30 bps below Italian equivalents in coming days, arguing that Spain's economic prospects in coming months look more positive, with Madrid well ahead of Rome with structural reforms.

But they said this outperformance could peter out in coming months as Italy still benefits from a more liquid debt market which made it the portfolio choice for foreign investors.

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