* Berlin seen maintaining conditional support for periphery
* Bond investors keep cautious exposure to Italy, Spain
* No significant German policy shift seen
By Emelia Sithole-Matarise
LONDON, Sept 23 Euro zone bond investors are
heartened that Angela Merkel looks likely to maintain Germany's
carrot-and-stick support for weaker economies but no-one is
rushing to buy with no significant policy shift expected.
Germany, Europe's biggest economy, has been the major
contributor to bailouts for countries like Portugal, Greece and
Ireland that have been shut out of capital market during the
euro zone's three-year debt crisis.
Many investors had seen the election campaign as an obstacle
to crucial decisions on the bloc's problems, such as new aid
packages for Greece and potentially Portugal and were looking
for progress one the make-up of the German government was clear.
Merkel's conservatives notched up their best election result
in two decades but fell short of an absolute majority and must
now seek to forge a new coalition.
Her party may have to convince leftist rivals to join a
coalition after their current allies, the Free Democrats (FDP)
suffered a humiliating exit from parliament.
The Social Democrats, with whom she is seen most likely to
share power, back the call from weaker economies to favour
growth-oriented polices over austerity. The SPD's support was
crucial for Merkel to push through measures to defuse the euro
zone debt crisis over the past year, including backing the
European Central Bank's bond purchase scheme.
Merkel's strong showing, however, was seen giving her enough
muscle to fend off more contentious demands such as issuing
common euro zone bonds, earlier supported by the SPD, which
would see Germany assuming more liability for weaker economies.
"This will likely mean a continuation of the policy which
the Merkel government has been pursuing with regards to the euro
area - a policy of support in return for reforms and austerity,"
said Michiel de Bruin, head of euro government bonds at F&C
"We have been fairly constructive on the periphery. At the
moment given this outcome we see no reason to change that." The
company, which has $140 billion of assets under management,
holds Spanish and Italian bonds.
Italian and Spanish yields fell slightly on Monday. De Bruin
said their 10-year yield premia over safe-haven German debt
could fall to lows below 200 basis points seen in July 2011 from
around 240 bps, especially if the tentative recovery in the euro
zone economy gathered pace.
With the election out of the way, plans for a banking union
with a single resolution mechanism for lenders in trouble, a key
plank in European leaders' efforts to resolve the debt crisis,
could gain impetus.
"It's (the election outcome) probably going to be a
supporting feature for our exposure to peripherals," said
Rabbani Wahhab, senior fixed income portfolio manager at London
"From a risk-adjusted perspective we would be adding to
Italy and Spain but then we probably need to be a bit selective
on Portugal and Greece but we certainly won't be put off."
London and Capital is "underweight" Spanish and Italian
bonds but less so than it was about four months ago and has
"very small" exposure to Portuguese and Greek debt, Wahhab said.
While many investors saw little change in German policies
towards the euro zone resulting from a coalition between the
conservatives and either the Social Democrats or the Greens,
some said lengthy talks could unsettle markets. In the past,
establishing a coalition has taken four to eight weeks.
"A grand coalition may also become unstable in the long run,
as the SPD will likely try to avoid the same fate as in 2005-09
when it lost substantial voter support following its
participation in a Merkel-led grand coalition government," Citi
strategists said in a note.