* Concern over Italian vote support demand for Bunds
* German sentiment index seen rising, could curb Bund gains
* Italian yields unchanged on day after recent rise
By Emelia Sithole-Matarise
LONDON, Feb 19 (Reuters) - Bund futures held steady on Tuesday before German sentiment data later in the day, with demand for low-risk debt propped up by concerns over the possibility of an inconclusive outcome to Italian elections this weekend.
Markets are looking to the German ZEW index of investor and analyst sentiment for signs of recovery in the euro zone’s biggest economy after it shrank more than expected in the fourth quarter.
The index due at 1000 GMT is seen rising for the third straight month to 35.0 in February from 31.5 last month, according to the consensus forecast in a Reuters poll of 36 economists.
“People are trying to play down the weak GDP data, that it was backward looking and that since then things have improved but I don’t know if we quite buy into that,” a trader said.
German Bund futures were last 12 ticks up on the day at 142.88, adding to Monday’s sharp gains in a market increasingly apprehensive that Italy’s elections on Feb. 25-26 could result in a hung parliament which would hamper any future reform efforts.
“The ZEW should be stronger so in theory it should be a bit negative for the Bund...But if you look to the peripherals then you see that the uncertainty over Italian elections is playing a role and supporting Bunds in very thinly-dated markets,” said Piet Lammens, a strategist with KBC.
Italian 10-year bond yields were unchanged on the day at 4.42 percent while equivalent German yields were one basis point lower at 1.62 percent, slightly widening their spread to 280 bps.
Lammens said the 10-year Italian yield premium over German benchmarks could rise by another 20-30 basis points going into the elections but this was unlikely to set off panic-selling and a rise back to euro-era highs seen in mid-2012 before the European Central Bank’s pledge to save the euro calmed markets.
“If the result is negative, part of it has already been discounted by the market so I don’t think we will go back to the crisis levels. It may be an opportunity to pick up Italian bonds if there’s a big correction after the election,” he said.
The modest 35 basis point rise in Italian yields from January’s 4.07 percent low also reflected investors’ underlying confidence in the euro zone, thanks partly to the ECB’s promise to buy bonds issued by struggling states if needed, analysts say.
German bond prices were also vulnerable to falls if the German ZEW beats forecasts, analysts said, pointing too the Bund future’s struggle over the past week to break above this month’s high of 143.11 which would give it upward momentum.
“A further improvement of the ZEW index confirms the latest positive leading indicators before the more important PMIs on Thrusday. We thus prefer a tactical short position in the Bund future for today,” Commerzbank strategists said in a note.