October 29, 2018 / 8:29 AM / 14 days ago

UPDATE 1-S&P ratings relief lifts Italy's bond market

* Italy’s bond yields fall after S&P leaves rating unchanged

* Italian 10-year yield at 1-week low of 3.33 pct

* Outperform euro zone peers

* Euro zone periphery govt bond yields tmsnrt.rs/2ii2Bqr

By Dhara Ranasinghe

LONDON, Oct 29 (Reuters) - Italy’s 10-year government bond yield fell to a one-week low on Monday, narrowing the gap over safer German peers, on relief that ratings agency Standard & Poor’s left the country’s credit rating unchanged.

S&P on Friday left Italy’s rating at BBB, two notches above junk, but lowered its outlook to negative from stable, saying that the new government’s policy plans were weighing on the country’s growth and debt prospects.

But the decision to leave the rating unchanged a week after Moody’s downgraded it, bought some relief to a bond market hurt by the spending plans of the new government in Rome, tension with the European Union and heightened concern about the implications for the country’s ratings.

In early Monday trade, yields on Italian government bonds were down six to 16 basis points across maturities.

Italy’s 10-year bond yield fell to a one-week low at 3.33 percent, while yields on most other euro zone peers were higher on the day as a firmer tone to European stock markets took the shine off broader fixed income markets.

The fall in Italian bond yields narrowed the gap over top-rated German bond yields to 299 bps from around 306 bps late Friday.

“The ratings update was a relief,” Commerzbank rates strategist Rainer Guntermann said.

“The underlying budget concern is an ongoing issue but the ratings risks are out of the way for the rest of the year as there’s no more scheduled ratings decisions.”

While rating risks receded for now, the overall outlook for Italian debt remained bearish, analysts said.

If the bond yield spread between Italy and Germany rises to “unbearable levels”, the Italian government is ready to support domestic banks with loans, state guarantees and other measures, Corriere della Sera said in an unsourced report on Monday.

Outside Italy, most 10-year bond yields were up 1-2 bps on the day, as the recovery in Italian markets and broader European share markets dented demand for safe-havens.

Analysts said limited bond supply from the bloc this week and heavy redemptions should cap a rise in yields.

There was some focus on Germany, where Chancellor Angela Merkel’s Christian Democrats (CDU) and its coalition partner suffered heavy losses in a regional election on Sunday.

Still, that election had limited bond market impact in early Monday trade.

Reporting by Dhara Ranasinghe; Editing by Alison Williams

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