* German 4.2 billion euro bond auction draws solid demand
* Investors willing to forego yield for safety and liquidity
* Scarcity boosts appeal in final 2014 bond re-opening
By William James
LONDON, April 18 (Reuters) - Germany sold 4.2 billion euros of new two-year debt at record low cost on Wednesday as investors nervous over Spain’s fiscal frailty showed a healthy appetite for the low-risk bonds.
The strong auction showed Berlin could still raise money at ultra-low rates and with relative ease thanks to its safe-haven status against the uncertain backdrop of the euro zone’s 2 1/2-year-old debt crisis.
The final offering of the March 2014 bond sold at an average yield of 0.14 percent, falling below the previous record of 0.17 percent seen at a sale in January.
“It’s a strong auction indeed, both looking at the pricing levels but also the aggregate demand,” said Michael Leister, strategist at DZ Bank in Frankfurt.
“The safety both in terms of credit quality and also liquidity of Bunds, especially of the short end of the German curve, proves to be what investors are looking for these days with the debt crisis staging a comeback.”
German yields have been driven to rock bottom by demand for secure and liquid assets after a recent escalation of the crisis on doubts Spain can restore health to its public finances.
Despite the low yields, the auction attracted bids worth 1.8 time the amount on offer - in line with the average seen at previous sales of two-year debt this year.
German authorities retained 15.9 percent of the issue to sell into secondary markets at a later date - consistent with the 2012 average retention rate of 15.4 percent.
The sale was under scrutiny after the launch of a new 10-year German bond last week was deemed a ‘technical failure’ when bids fell short of the amount on offer and investors baulked at a record low 1.75 percent interest rate on the bond.
But demand for shorter-dated debt, which typically is preferred when investors are seeking a place to protect investments thanks to its greater liquidity, proved more resilient.
The record low 0.14 percent yield, when compared to annual German inflation at 2.1 percent, underscores the strong priority given to preserving capital rather than generating returns.
“The auction goes to show that the low yield is far from being the priority in the market’s mind right now,” said Peter Chatwell, rate strategist at Credit Agricole in London.
In secondary markets two-year German bonds have changed hands at rates as low as 0.095 percent in the last two weeks as investors seek to park cash pulled out of riskier euro zone bonds.
Analysts said the sale also benefited from being the final time the bond, which carries a 0.25 percent coupon, will be sold at auction - creating an element of scarcity that tends to pull in extra buyers.
“Market dealers might have seen some potential appreciation of the paper versus the German curve given that today’s was the last tap of the line,” said Annalisa Piazza, market economist at Newedge in London.