September 26, 2018 / 8:39 AM / 8 months ago

UPDATE 3-Tria comments fuel Italian bonds rally, budget optimism

* Italian bond yields down 5-10 bps

* Tria offers some budget clarity

* Bund yields touch lower ahead of Fed rates decision (Updates prices)

By Virginia Furness

LONDON, Sept 26 (Reuters) - Italian bond yields extended falls on Wednesday after Economy Minister Giovanni Tria offered greater clarity on the upcoming budget while saying it must generate confidence in Italy’s financial stability ahead of this week’s deadline.

Tria said that the new deficit targets to be presented on Thursday would send a signal to markets on Italy’s debt sustainability.

His comments served to further reassure investors that Italy’s anti-establishment government will target a budget deficit of around 2 percent for 2019, though the debate for some is already moving on to focus on longer-term Italian growth.

“I want to see what they are really going to do in terms of limiting the budget deficit,” said Francois Savary, CIO at wealth manager Prime Partners. “The devil is in the detail.”

Yields on short-dated Italian bonds were as much as 10 basis points lower after rising briefly after the open of European markets.

Italy’s five-year bond yields were eight bps lower at 1.82 percent and its 10-year was five bps lower at 2.84 percent. .

The government, made up of the 5-Star Movement and the League, must approve its 2019 public finance and growth targets on Thursday.

Tria, who is a member of neither party, is pushing to keep the deficit below 2 percent of gross domestic product next year.

Investors hope a cabinet meeting scheduled for Thursday will end months of speculation, though analysts warn that while the headline figure may look palatable they want to see the fine print.

“It seems that the agreement will be 2 percent,” said Rainer Guntermann, rates strategist at Commerzbank.

“This level should be priced in, but it is not so much about the numbers per se, than how realistic they are in terms of economic growth and tax assumptions. The question is, is this achievable in the long term, is there a risk of a higher deficit?”

The Italy/Germany 10-year bond yield spread also tightened to 230 bps, edging towards its narrowest since Aug. 1.

BBVA strategist Jaime Costero Denche said there was scope for the spread to tighten to 200 bps in the next few sessions.

Elsewhere, German bond yields remained just close to highs reached on Tuesday. Germany’s 10-year, the benchmark for the region, opened at around 0.54 percent, down around 1 bp .

Higher-grade euro zone bond yields edged lower between 1 to 3 basis points as markets awaited the outcome of a two-day meeting of the U.S. Federal Open Markets Committee., .

Markets are a pricing a 95 percent probability the Fed will raise its benchmark overnight lending rate by a quarter of a percentage point on Wednesday, in what would be its third increase this year, based on an analysis of fed fund futures contracts by CME Group.

Investors are bracing for higher interest rates globally as major central banks unwind massive stimulus injected into world markets to cope with the financial crisis.

U.S. 10-year yields rose to a four-month peak on Tuesday, then edged down to 3.09 percent in early trade.

Reporting by Virginia Furness, Additional reporting Sujata Rao and Abhinav Ramnarayan, editing by Larry King and Jon Boyle

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