* Demand falls at Italian debt auction
* Cyprus concerns push Bunds to 3-week highs
* Analysts expect Italian bonds to recover
By Marius Zaharia
LONDON, March 27 Italian bond yields rose on
Wednesday as the stalemate over the formation of a new
government and concern about the potential fallout from the
Cyprus crisis hurt demand at an Italian debt auction.
Cyprus, fearing a run on its banks after agreeing to a
rescue deal that will wipe out some senior bank bondholders and
impose losses on large depositors, is expected to finalise a set
of capital controls on Wednesday - the first time such measures
have been used in the euro zone.
Investors are worried that depositors at banks in other
countries may believe their savings are in danger, too.
There is also concern that the deal Cyprus agreed to in
order to avoid potentially being forced out of the euro zone may
become a template for solving other crises in the region -
despite reassurance from policymakers that it will not.
Italy, which is still searching for a government after
February elections that produced a hung parliament, sold 6.9
billion euros worth of five- and 10-year bonds, close to the
upper limit of its 5-7 billion target range.
Demand was weaker than at previous auctions, however. The
10-year bond drew bids worth 1.33 times the amount allocated
versus an average of 1.48 times so far this year. The bid/cover
ratio for the five-year bond was 1.22 compared with a 2013
average of 1.4.
"Political uncertainties and market fears of another leg of
recession in the euro area, due to risks of a break-up of the
monetary union explain the weakness of the auction," said
Annalisa Piazza, market economist at Newedge.
"The risks for Italian debt remain very high in the coming
In secondary markets, Italian 10-year yields
rose 13 basis points to 4.72 percent, with the paper
underperforming all other investment grade bonds in the euro
zone. Equivalent Spanish yields rose 10 bps to
Italian yields were expected to rise further, although any
increase would likely be met by renewed buying interest from
investors who believe the European Central Bank's so far
untested bond buying programme (OMT) is a powerful backstop.
"We expect that dips will be bought overall given that the
OMT is in place and we have an ECB meeting next week where the
market may be looking for some verbal confirmation of the ECB's
resolve," said Michael Leister, rate strategist at Commerzbank.
Investors were closely watching centre-left leader
Pier-Luigi Bersani's attempts to form a government. Ex-comic
Beppe Grillo's anti-establishment 5-Star Movement on Wednesday
flatly rejected overtures from Bersani.
Markets expect either a grand coalition to include the
centre-right led by former premier Silvio Berlusconi or fresh
elections in coming months. Neither option is particularly
positive for Italian bonds, though.
ž"Although Bersani's consultations with other political
leaders might lead to a grand-coalition government, markets are
aware that such a government will not last long," Newedge's
"A set of reforms might be approved by the new government
but we still expect Italy to go to another election before the
end of the year."
Bund futures, which investors tend to grab in times
of increased tension, were 64 ticks higher on the day at 145.46,
having hit 145.52 earlier in the session - their highest since