German yields edge up on Russia relief, Gaza ceasefire

Mon Aug 11, 2014 11:57am EDT

* Russia says it had ended military drills near Ukraine

* Israel and the Palestinians strike 72-hour truce

* Uncertainty remains high, top-rated assets to remain bid (Updates prices, adds fresh analyst comments)

By Marius Zaharia

LONDON, Aug 11 (Reuters) - German bond yields bounced off record lows on Monday after Moscow said it had finished military exercises near Ukraine while Israel and the Palestinians agreed a ceasefire.

But market moves out of top-rated assets were modest as uncertainty remained high and investors saw risks of further flare-ups in the Middle East and Ukraine.

Bund futures fell 14 ticks to 149.34, with 10-year German yields rising 1 basis point to 1.06 percent, having hit a record low of 1.024 percent on Friday.

Bunds, seen as among the safest assets in the world, have gained especially from the conflict between the West and Russia over Ukraine. Economic sanctions imposed by both sides are expected to take their toll on the euro zone's economic recovery, which is already fragile and uneven.

"There seems some easing in the military situation between Russia and Ukraine, but still, with the sanctions that have been adopted ... that will still have an impact on the (euro zone economy," said Gianluca Ziglio, a strategist at Sunrise Brokers.

"What's extremely worrying too is the situation in Iraq with Western countries like the United States becoming more and more involved, and the situation in Israel and Palestine. These kinds of uncertainties and geopolitical risks should allow Bunds to remain well bid."

Moscow's Defence Ministry said it stopped drills in southern Russia, easing fears that it could invade eastern Ukraine.

But talk of a ceasefire in Ukraine, a possibility raised by a pro-Russian separatist leader on Saturday, evaporated as government forces pushed to recapture Donetsk.

In the Middle East, Israel and the Palestinians agreed on Sunday to a new 72-hour truce in Gaza.

In Iraq, U.S. air strikes against Islamic State militants were seen by some analysts as aiding stability, curbing risks of oil supply disruptions from OPEC's second-largest producer.

BUSY AUGUST

The conflicts in the Middle East and Ukraine have kept traders edgy at the start of a month known for very low activity due to the summer holidays in the northern hemisphere.

Last week's volumes in Bund futures were, at 3.5 million lots, the largest since June and above a weekly average of just below 3 million so far in 2014. Volumes in Italian BTP futures were the highest since May at just below 360,000 lots.

Spanish and Italian 10-year yields fell 3-4 basis points to 2.55 percent and 2.79 percent, respectively.

Italy's Senate passed on Friday a first reading of a hotly contested constitutional reform bill backed by Prime Minister Matteo Renzi.

The bill, aimed at making the upper house an unelected body and drastically reducing its powers, requires many more months and perhaps a popular referendum in order to become law. But eventually, Renzi hopes it will end the kind of parliamentary stalemate left after a deadlocked election last year.

The slow speed of Italy's reforms came under closer scrutiny in financial markets last week after data showed the euro zone's third-largest economy slipping back into recession.

Renzi told the Financial Times that Italy would post a budget deficit of just below the European Union's limit of 3 percent of gross domestic product without additional fiscal tightening. April's official forecast was 2.6 percent.

"Structural measures promised by Renzi are still to be seen, and with last week's poor GDP numbers the time is running out," said Suvi Kosonen, an analyst at Nordea. (Additional reporting by Emelia Sithole-Matarise; Editing by Andrew Heavens/Ruth Pitchford)

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