UPDATE 3-Italy draws record demand for new BTP syndicated deal

* Size of new 15-year bond set at 10 bln euros

* Orders topped 35.5 bln euros

* Rome’s deal over budget ended market turbulence (Adds final terms, pricing, comment)

MILAN/LONDON, Jan 15 (Reuters) - Italy raised 10 billion euros on Tuesday in its biggest ever syndicated bond sale, drawing total investor orders of more than 35.5 billion euros ($41 billion), a lead manager at one of the banks that helped sell the debt said.

Demand for the 15-year bond was buoyed by the resolution last month of a protracted row between Rome and the European Commission over Italy’s budget, which had contributed to months of market turbulence.

The healthy yield offered helped secure what the lead manager said was a record final size and order book for an Italian syndicated issue.

Arnaud-Guilhem Lamy, a fixed-income portfolio manager at BNP Paribas Asset Management, said it had bought more of the Italian paper than he had anticipated, adding: “The (yield) levels are more attractive than we had expected.”

But he said the purchase would be funded mainly by switching out of older Italian debt rather than by committing new money.

“Our medium-term outlook is not positive with the European elections coming up, and still some questions about the future of the Italian coalition government,” Lamy said.

Italy last sold syndicated debt a year ago, months before the election of a populist government sapped appetite for Italian risk.

It and other larger euro zone countries use syndication to target particular groups of investors such as international or retail buyers or to conduct long-dated bond sales that might struggle to gain traction at auction

The new bond, due March 2035, was priced at 18 basis points over Italy’s outstanding September 2033 issue for a final yield of 3.41 percent. Initial price guidance had been set at 20-22 basis points on Tuesday morning.

“Though all is not well for Italy in the medium term, we think there is some potential for spread tightening over the next six months,” said John Taylor, a fixed income portfolio manager at AllianceBernstein, which has $550 billion of funds under management.

Italy’s benchmark 10-year bond was yielding 265 basis points more than its German equivalent on Tuesday, much less than the 5-1/2 year high of 340 basis points it hit in October at the peak of the budget squabble between Rome and Brussels. German debt is the low-risk benchmark for the euro zone.

Earlier this month, renewed fears about the Italian banking sector, led by concerns over troubled lender Banca Carige , triggered a new sell-off in the country’s debt.

Tuesday’s deal shows Italy’s ability to tap the market even in the long-dated maturities, according to Commerzbank rates strategist Christoph Rieger.

“This should bolster sentiment which has taken quite a hit from the banking stories,” he said. He expected a final size for the issue of 7.5 billion euros.

Barclays, Citi, HSBC, JP Morgan and UniCredit are joint lead managers for the deal.

$1 = 0.8734 euros Reporting by Giulio Piovaccari in Milan and Abhinav Ramnarayan in London; Writing by Giulio Piovaccari; Editing by Catherine Evans