January 24, 2012 / 4:46 PM / 6 years ago

EURO GOVT-Bund yields hover around 2 pct; no panic on Greece

* Bund yields retreat after hitting 2 percent; trade choppy

* Greek debt swap deal talks suffer setback but no panic

* Euro zone PMIs better than expected

By Kirsten Donovan and Marius Zaharia

LONDON, Jan 24 (Reuters) - Bund yields see-sawed either side of the psychological 2 percent level on Tuesday, but there was no sense of panic after another setback in negotiations on a Greek debt swap deal which is vital to avoiding a chaotic default.

Better than expected euro zone manufacturing data eased fears of a looming recession and pushed yields to a one-month high of 2.019 percent early in the session. Traders said some investors then booked profits on their short positions.

Greece’s private creditors pleaded with European officials who rejected their bond swap offer the previous day to hammer together a deal before Athens tumbles into a messy default [ID:nL5E8CO2TV.

The country is desperate for a deal to ensure funds from a 130 billion euro rescue plan drawn up by European partners and the International Monetary Fund arrive before 14.5 billion euros of bond redemptions fall due in March.

But markets believe the risk of a euro zone break-up if Greece defaults in a disorderly fashion would be a scenario scary enough for both parties to eventually reach a deal.

“People have been looking through rose-tinted glasses although the equity market seems to have woken up today to the fact there may not be an agreement,” said Nick Stamenkovic, rate strategist at RIA Capital Markets.

“Investors are giving the benefit of the doubt though because the participants are all aware of the consequences if there isn’t an agreement.”

The International Monetary Fund warned that the escalating euro zone debt crisis is dragging down the world economy, sharply cutting its outlook for growth.

Bund futures settled 14 ticks lower at 137.30. Benchmark ten-year yields were 2 basis points lower at exactly 2.0 percent.

“There’s been good two way flows in a range of markets today,” a trader said.

“The back-end of last week and this week, the aggressive short positions in risk assets have been pared back but that in a way makes it more dangerous if there is more bad news.”

European equities were half a percent lower.

The next three weeks are crucial, with Greece aiming to submit a final offer by Feb. 13 and allow time for the paperwork to be done. The closer that deadline gets, the more nervous markets are likely to be.

“Arguing over minor details, really, seems to ignore the bigger picture,” Monument Securities strategist Marc Ostwald said. “There will come a point where there will be cut-offs”

“It seems difficult to envisage a situation in which a hard default would not result in Greece’s exit from the euro zone and then you start chasing down other countries.”

AN IMMATERIAL WORLD

Even if the debt swap is successful, the euro zone will still be marred by uncertainty and volatility will prevail as many other problems remain unsolved.

Concerns remain over Italy’s massive debt redemptions in the first quarter, fiscal deficits in southern states continue to widen as there is no growth, and the ambitious project for greater fiscal integration is still in its inception phase.

Moreover, Greece is off track with its reforms and looks unlikely to regain market access unless its debt pile falls considerably more than the debt swap is aiming for, implying public institutions such as the European Central Bank may have to accept losses on their Greek bond holdings as well.

“The whole discussion (over Greece) seems to be highly academic. The truth of the matter is that if Greece is paying 5, 3.5 or 2 percent on the new bonds is a little bit immaterial because the debt is still unsustainable,” Ostwald said.

For now there is a relative sense of calm. Yields for Italy and other borrowers have come down since banks were given nearly half-a-trillion euros of cheap loans in December, while the International Monetary Fund plans to boost its resources.

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