Italy yields return to lows as ECB fuels debt demand

Wed May 14, 2014 11:37am EDT

* Italy prices new 15-yr bond, 20 bln euros bids placed

* German 2yr yields hit six year lows after sale

* ECB, BoE outlooks spurs latest euro zone bond rally

* Spanish, Irish, Italy yields all at new record lows (Adds comment, updates prices)

By Emelia Sithole-Matarise

LONDON, May 14 (Reuters) - Italian yields fell back to record lows on Wednesday as a sale of longer-dated bonds in Rome drew robust interest from investors anticipating fresh European Central Bank stimulus next month.

Bank of England signals that it was in no hurry to raise interest rates also reinforced the move lower in borrowing costs across the credit spectrum, with Spanish and Irish yields retesting all-time lows and German yields falling to their lowest in nearly a year.

The relentless demand for euro zone government bonds has prompted a slew of scheduled and unscheduled debt sales from the region's issuers this week, seeking to make the most of some of the lowest borrowing costs on record. Peripheral debt in particular has benefited from an investor hunt for yield as returns on core bonds have dwindled.

"It is becoming a virtuous circle for the periphery. The more they issue, the tighter spreads get," said David Keeble, global head of fixed income strategy at Credit Agricole.

A clear signal by ECB President Mario Draghi last week that the bank was poised to ease monetary policy next month to support the economy has given further impetus to the two-year rally in lower-rated euro zone bonds.

The bank's package of policy options for the June meeting includes cuts in all its interest rates and targeted measures aimed at boosting lending to small- and mid-sized firms, sources familiar with the measures told Reuters.

FUNDING RESILIENCE

Italy received over 20 billion euros of orders for its new 15-year bond allowing it to price 7 billion euros via a syndicate of banks. The deal followed a strong auction of 7.25 billion euros of paper on Tuesday, which included a three-year bond sold at record low yields.

Spain also issued 5 billion euros of an inaugural inflation-linked bond on Tuesday, after bids topped 20 billion euros.

Rome's longer-dated bond offer advances its aim to take advantage of the best borrowing costs on record to lengthen the average life of its debt and avoid the dangerous trap of short-term refinancing obligations. Earlier in the year, it issued 2022 and a 2028 bond.

"Demand for peripheral paper is very strong and the Spanish linker showed 70 percent of the issue was picked up by foreign investors and the Italian syndication should show a similar trend," said Commerzbank strategist Michael Leister.

"Overall this is very positive for peripherals and underscores their funding resilience and the strength of demand and the fact that Treasuries are very keen to increase the duration of their debt and diversify the funding base."

Italian 10-year yields fell 4 basis points to 2.90 percent, matching a record low hit last week. Yields pared some of those gains later in the day, but the rally was tipped to resume after Wednesday's sale.

Rome is selling the new 15-year benchmark at a yield of 10 basis points above the current bond which yielded 3.47 percent in the secondary market, a historic low, according to Reuters data.

BoE BOOST

At the upper end of the credit spectrum, investors also snapped up 4.16 billion euros of a new two-year bond, supported by the ECB easing bets, shrugging off concerns that meagre returns on offer might undermine demand.

German two-year yields were last 1 basis point down at 0.10 percent, their lowest levels in nearly six weeks.

German 10-year yields, the benchmark for euro zone borrowing costs, were 5 bps down at 1.38 percent with the move gathering pace with falls in UK gilt yields after the BoE's inflation report prompted investors to push back expectations of when the Bank would hike rates.

"The inflation report today was also very bond friendly ... Until we start seeing a pickup in wage pressures in the UK and U.S. which has been quite absent maybe the bond market is thinking central banks will remain accommodative for longer," said ICAP strategist Philip Tyson. (Additional reporting by John Geddie; Editing by Jeremy Gaunt)

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