Spanish, Italian yields bounce as caution sets in

LONDON (Reuters) - Spanish and Italian short-term government bond yields rose on Tuesday as caution took over after a strong rally fuelled by the prospect of the European Central Bank buying the two countries' debt.

The ECB said last week it may resume purchasing bonds if troubled countries activated the euro zone's rescue funds and accepted strict conditions and supervision. That has given relief to the governments struggling most in the euro zone's debt crisis.

But investors are not yet fully convinced ECB intervention would succeed in insulating Spain and Italy in the debt crisis and worries remain over the barriers that must be overcome before the ECB can step in.

The ESM bailout fund, which the ECB wants countries to tap before it buys their bonds, is not yet functional, awaiting among other things a German Constitutional Court ruling on it on Sept 12.

Germany's Bundesbank has also yet to be convinced of the plan to buy bonds and some analysts wonder how strong any ECB intervention would be given failed past attempts to cap borrowing costs in Greece, Ireland and Portugal.

"With regards to the ECB intervention, there's just going to be uncertainty between now and then," Credit Agricole rate strategist Peter Chatwell said.

"It makes sense (for the rally in short-term Spanish and Italian debt) to pause until we see something concrete. There are a lot of variables - we don't know what tenors they want to buy or what size. You need some facts on the table."

Two-year Spanish yields rose 39 basis points on the day to 3.71 percent, but have still almost halved from highs above 7 percent hit before ECB President Mario Draghi pledged two weeks ago to do whatever was needed to save the euro.

Italian two-year yields rose 22 bps to 3.31 percent, with traders saying thin volumes exaggerated the move.

"We are seeing some profit taking. We had a huge drop in yields and I think Spain asking for help is not imminent," one trader said.

Preliminary data showing Italy's economy contracted by 0.7 percent in the second quarter, a touch more than expected, were a reminder of the depth of the euro zone's problems. Prime Minister Mario Monti won a confidence vote on Tuesday for a bill to cut spending and delay a planned sales tax increase.

Ten-year Spanish yields rose 6 bps to 6.86 percent, with the psychological 7 percent level that sparks fear of an imminent loss of market access still within reach. Equivalent Italian yields were 5 bps higher at 6.05 percent.

"More or less we are in a waiting mode. I don't expect big moves before the September (Constitutional Court) meeting," said Norbert Wuthe, senior government bonds strategist at Bayerische Landesbank.

As long as uncertainty remained high, room for Spanish and Italian bonds to rally further was limited, Wuthe said.

GUESSWORK

Investors in German Bund futures have also hesitated in pricing in better times for the euro zone. On Thursday and Friday - after the ECB meeting - they saw intra-day swings of more than 200 ticks, before stabilizing somewhat.

On Tuesday, the September contract traded 26 ticks lower at 142.94. At 1.42 percent, 10-year Bund yields were 2 bps higher on the day, but bang in the middle of the 1.2-1.6 percent range seen over the European summer.

"Guesswork as to how forthcoming ECB/EU intervention might look continues," Commerzbank rate strategist Benjamin Schroeder said in a note, adding that last week's low of 142.64 could act as a lower boundary for a new range in coming days.

Helaba Landesbank Hessen-Thueringen strategists said Bund futures may fall towards 142.22, the 61.8 percent retracement of the rise in July, but expected them to bounce afterwards, favoring a trading range of 142.22 to 144.08.

(Editing by Patrick Graham)

Source: http://news.yahoo.com/spanish-italian-yields-bounce-caution-sets-110314842--finance.html

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