LONDON Spanish 10-year yields topped 7 percent on Thursday and were seen testing their euro-era highs in the near term after ECB President Mario Draghi quashed expectations of an immediate resumption of the bank's bond-buying program.
Draghi indicated that any European Central Bank intervention would begin in September at the earliest and would depend on troubled countries making a request to use the euro zone's rescue funds and accepting strict conditions and supervision.
That fell way short of the imminent, bold ECB action that many in markets had sought after Draghi's pledge last week to do whatever was needed to preserve the euro.
Spanish 10-year bond yields were 36 basis points higher on the day at 7.10 percent. Since Draghi's comments last week, they had fallen to as low as 6.60 percent from euro-era highs of 7.78 percent
"It was not what the market hoped for, it is not what (Draghi) set the markets up for with his comments last week," Commerzbank rate strategist David Schnautz said.
"People don't have the impression that they (the ECB) are ready or able or willing to do what's needed ... I firmly expect a bearish tone going forward."
Schnautz said Spanish 10-year yields may re-test their highs, while safe-haven German 10-year Bunds should see their yields approaching their record low of 1.126 percent soon. Bund yields were 13 bps lower on the day at 1.244 percent.
The ECB has already spent about 210 billion euros buying bonds under its now dormant Securities Markets Programme (SMP) since May 2010, with limited impact.
The purchases failed to safeguard access to markets for countries such as Greece, Ireland or Portugal, which have been forced into asking for bailouts, and only briefly halted a sell-off in Italian and Spanish bonds.
However, Draghi's comments that any intervention would be focused on short-dated paper underpinned two-year Spanish and Italian bonds. Their yields were just a few basis points lower on the day at 4.63 and 3.77 percent, respectively.
But that may not necessarily last, analysts said. In the bailed out countries, high long-term borrowing costs pushed sovereigns to tap shorter-term bond markets until investors' demand for such paper eventually reached saturation.
Longer-term Italian debt took a significant hit, with 10-year yields rising 38 bps on the day to 6.31 percent. BTP futures fell 263 ticks to 97.36, having traded as high as 102.14 percent.
The cost of insuring Spanish and Italian debt rose.
Five-year Italian credit default swaps rose 45 bps on the day to 531 bps, according to data monitor Markit. This means it costs $531,000 a year to buy $10 million of protection against an Italian default using a five-year CDS contract.
Equivalent Spanish CDS were 43 bps higher at 580 bps.
KEEPING PRESSURE ON
Draghi also disappointed some in the market by dismissing the idea of giving the future ESM rescue fund a banking license so it could borrow from the ECB and increase its firepower.
If Spain asks for a sovereign bailout in addition to the aid already agreed for its banks, the euro zone will be left without rescue funds for Italy, a much larger economy, if needed.
The ESM is not operational as its approval depends on a green light from Germany's Constitutional Court expected by September 12 - hence the expectation in the market the ECB will not take action at least until then.
Marius Daheim, a senior fixed income analyst with Bayerische Landesbank, said the ECB was probably trying to keep the pressure on politicians to address these shortcomings.
"But markets are trading throughout August. So do we need to (see) Spanish yields going to ... 8 percent, perhaps?"
(Editing by Nigel Stephenson)