February 11, 2013 / 5:55 PM / 5 years ago

EURO GOVT-Political risk weighs on Italian, Spanish debt

* Political stability worries hit Italian, Spanish debt
    * Periphery seen vulnerable to more selling
    * Bund futures meet resistance at 143.11


    By Marius Zaharia and Ana Nicolaci da Costa
    LONDON, Feb 11 (Reuters) - Italian and Spanish bond yields
rose on Monday and were seen rising further on fears that
Italian elections this month will produce an inconclusive result
and worries about a corruption scandal in Madrid.
    Renewed political uncertainty is prompting investors to book
profits on a six-month rally in peripheral debt that started
when the European Central Bank announced its new bond-buying
programme, which can be activated if a country seeks a bailout.
    In Italy, a powerful fight-back by former Prime Minister
Silvio Berlusconi in opinion polls has raised concerns the poll
will produce a fragmented parliament. That could hamper the
government's ability to push through structural reforms needed
to cut the country's massive 2 trillion euro debt pile.
    "There is some nervousness ahead of Italian elections.
Investors are reducing some of (their) positions as we seem to
be heading towards an increasingly inconclusive result," Societe
Generale rate strategist Ciaran O'Hagan said.
    Italian 10-year bond yields were last 5 basis
points higher at 4.62 percent, having risen by about 30 basis
points in February. The cost to insure Italian government debt
against default was steady at 266 basis points, but Italian
corporates were among the worst performers in European credit
default swaps markets, according to data firm Markit.
    The final polls before the Feb 24-25 vote showed the
centre-left is on course to win it, but it is likely to have to
form a coalition with technocrat outgoing Prime Minister Mario
Monti. 
    That outcome was not necessarily the worst for investors,
who have praised Monti's achievements at Italy's helm. The
scenario investors seem to be positioning for even though it may
not be the most likely one is a hung parliament, O'Hagan said.
    Citigroup strategist Alessandro Tentori also saw the
sell-off continuing "because we are still not pricing in
correctly, or to the full extent, the Italian political risk".
    In Spain, Prime Minister Mariano Rajoy faced calls to step
down over corruption allegations - which he denies - raising
worries that if the government loses popular support it may
deviate from its reform plans.
    Ten-year Spanish bond yields were up 6 bps at
5.44 percent, some 35 bps higher than at the end of last month.
    The recent sell-off in Spanish debt is likely to be only a
slight correction after a long rally rather than a new flight
out of Spain, Rabobank strategists said in a note. Risks that
Rajoy will have to step down are more "to be aware of rather
than beware of", they added.

    BUNDS
    Meanwhile, yields on German bunds, the low-risk benchmark
for the euro zone, are trading at levels seen before banks
started to repay their long-term crisis loans to the European
Central Bank. 
    Ten-year paper now yields about 1.60 percent,
having spiked above 1.70 percent earlier this month when
investors worried the excess liquidity in the euro zone banking
system may evaporate faster than initially thought. 
    The higher than expected repayments prompted a rise in money
market rates late last month which also trickled through into
longer-dated German debt.
    Draghi sought to play down such concerns after the ECB's
monthly meeting on Thursday, saying he will monitor money
markets closely. His comments triggered a fall in short-term
rates and a rebound in Bunds.
    Bund futures were last 2 ticks higher at 142.85,
with traders saying the day's high at 143.11 - also Friday's
session high - will provide near-term technical resistance.

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