* Worry over Italian political deadlock weighs on euro
* Italian bond yields ease to 4.75 percent
* European shares gain on confidence in central bank support
* U.S. stocks seen extending recent rally
By Richard Hubbard
LONDON, Feb 28 (Reuters) - Italian government bond yields edged lower and shares rose on Thursday as worries about Italy’s political stalemate were offset by confidence the European Central Bank would lend support if the crisis was to worsen.
Reassuring commitments from U.S. Federal Reserve Chairman Ben Bernanke on its stimulus plans reinforced investors’ belief that major central banks will continue with steps to support the world economy.
U.S. stock index futures pointed to a flat opening on Wall Street following a sharp two-day rally, with investors closely watching developments in Washington for signs of a last minute deal to avoid major spending cuts beginning on Friday.
But the biggest fear is that political instability in Italy, the euro zone’s third-largest economy, could reignite the bloc’s crisis, now in its fourth year. Some have questioned whether the ECB’s September pledge to help struggling member states which ask for aid can be utilised if there is no workable government.
“There will be a risk premium on Italian yields until a new government is formed and we know what they’re going to do with structural and fiscal reforms,” said Nick Stamenkovic, strategist at RIA Capital Markets.
“But we’re not going to see a return to the levels we saw a year ago because the ECB has pledged to use its balance sheet if necessary.”
Ten-year Italian bond yields were down about four basis points at 4.78 percent by midday. The yield has risen 46 basis points in February, however, the first significant monthly rise in Italy’s indicated borrowing costs since ECB President Mario Draghi promised in July to do whatever was needed to prevent a breakup of the euro.
Concerns about Italy weighed on the euro, which was down 0.2 percent on the day at $1.3109. The currency was expected to remain weak although it has recovered from sharp falls which took it to a near an eight-week trough of $1.3018 on Tuesday.
“We have got a lot of Italian election uncertainty in the next two to three weeks ... which doesn’t sound like it is going to be good for the euro,” said Chris Turner, head of FX strategy at ING.
German bond futures, a barometer of safe-haven demand, also trimmed early losses, indicating that euro zone concerns were not far away. The main Bund futures contract was four ticks higher on the day, having earlier lost around 13 ticks.
Some bond investors remain worried that the ECB’s ability to respond to problems in Italy may be limited, adding to concerns about an already weak regional growth outlook.
“I can’t see any game-changing growth numbers, I can’t see a policy response to the Italian elections from the ECB, and I can’t see any imminent headlines from Italy that will suggest some progress,” said Jack Kelly, Investment Director, Global Government Bonds at Standard Life Investments.
Equity markets meanwhile were enjoying support after Bernanke’s comments on further stimulus and a widely expected move by Japan’s prime minister to nominate a strong supporter of loose monetary policy to lead the Bank of Japan.
The MSCI’s world equity index rose 0.4 percent after a strong session across Asia which was supported by signs of economic growth in Japan after showed a pick up in industrial activity.
Europe’s broad FTSE Eurofirst 300 index had risen around 0.5 percent by midday, lifted by a fall in euro zone inflation which left the door open for the ECB to consider a rate cut when it meets next week.
London’s FTSE 100, Paris’s CAC-40 and Frankfurt’s DAX were between 0.1 and 0.6 percent higher.
Following a long unbroken run of gains in the second half of last year and in January thanks to aggressive support from the world’s major central banks, many equity markets have undergone a correction in February.
The broad FTSEurofirst 300 is on track for its first negative month since May last year, while the MSCI World index is likely to see its first setback since last October.
By contrast the dollar has had its strongest month since last May as investors keen to cash in on improving U.S. growth prospects - and those looking for safety in case euro zone tensions return - have bought into the greenback.
Commodities were also generally firmer due to the expectations of ongoing monetary easing, which encourages buying from investors looking for higher returns and raises the prospect of greater demand as economic activity picks up.
Brent rose 0.4 percent at $112.36. though U.S. crude fell 1 cent to $92.75 and was on track for an almost 5 percent drop this month after three straight monthly gains.
Gold was headed towards its longest run of monthly declines in more than 16 years, as the improved economic backdrop and lower inflation concerns blunt its appeal to investors.
Spot gold fell 0.4 percent to $1,590.91 per ounce, while U.S. gold futures for April delivery fell 0.5 percent to $1,588.