November 20, 2012 / 8:56 AM / 5 years ago

EURO GOVT-French yields edge up after downgrade

* French bonds under modest pressure after downgrade

* Moody’s strips France of triple-A rating, threatens more

* Bunds reverse early gains with focus on Greek aid

By Kirsten Donovan

LONDON, Nov 20 (Reuters) - French government bond futures fell and yields nudged higher on Tuesday after the euro zone’s second largest economy lost another of its prized triple-A ratings.

The one-notch downgrade of France by Moody’s injected some renewed caution into the market, helping to lift low-risk German bonds in early trade, but moves were limited and the rise in Bunds reversed as the downgrade had been widely expected.

Investors were also focused on a meeting of euro zone finance ministers later in the day at which officials are expected to agree to release 44 billion euros of emergency funding for Greece, something that is also likely to reduce safe-haven flows for the time being.

Moody’s cut France by one notch to Aa1, leaving it with a negative outlook and citing an uncertain fiscal outlook and a deteriorating economy.

The change brings the Moody’s rating into line with that of Standard & Poor‘s, which cut France to AA+ in January. Fitch Ratings still assigns its highest AAA grade.

“Although it’s not great, the market doesn’t seem too worried. It’s only a modest positive for Bunds,” a trader said.

“Away from that it’s still pre-Eurogroup speculation, but it’s priced in that there’s some sort of rubber-stamping of aid for Greece.”

French government bond futures were 18 ticks lower at 136.33, with their German equivalents paring earlier gains to stand 2 ticks higher on the day at 143.02.

French 10-year cash yields were 2 basis points higher at 2.097 percent and Bund yields unchanged at 1.36 percent.

Although the move in French bonds was relatively contained, analysts and traders said they may come under further pressure in the months ahead. Moody’s said separately that it would downgrade the country again if the Socialist government fails to implement announced reforms.

“People seem to be reluctant to conduct the short-France trade in 2012 with year-end coming, even though there seems to be a feeling that that’s the next big trade” said Rabobank rate strategist Lyn Graham-Taylor, referring to bets that French bonds would fall in price.

Although French bond yields have been reasonably steady and are at historically low levels, helped by safe-haven flows spurred by the euro zone debt crisis, the cost of insuring against a default reflects growing investor caution.

Five-year credit default swaps on the country’s debt have risen around 30 basis points since late November.

Athens appears to be on track to receive long-delayed funding under its latest international bailout after approving laws on Monday to enforce budget targets and ensure privatisation proceeds are used to pay off debt.

But while euro zone finance ministers are expected to give tentative approval for the next tranche of loans to be released, a deal on longer-term debt reduction may require further talks.

Euro zone officials have clashed with the International Monetary Fund over how to ensure Greece’s finances are sustainable over the longer-term and whether to shift the original target date for the country’s debt to fall to 120 percent of output to 2022 from the original 2020.

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