EURO GOVT-Italy sells bonds to modest demand, Bunds rise

* Bunds rise after solid U.S. Treasury auction

* Italy sells 8 bln euros of bonds to modest demand

* Peripheral bonds post worst performance in years

By Kirsten Donovan

LONDON, Dec 30 (BestGrowthStock) – Italian bond futures rose on
Thursday after a sale of government debt which met modest demand
in thin year-end markets, while German government bonds were
pulled up by a rally in U.S. Treasuries.

Italy sold 6 billion euros of three- and 10-year BTPs, and
2.1 billion euros of floating-rate notes, but yields rose in the
challenging liquidity conditions and with concerns over Europe’s
debt crisis lurking in investors’ minds [ID:nLDE6BT05E].

“The bid amounts don’t look particularly great…the
periphery euro zone countries are under pressure to raise a lot
of cash and the market has been heavy as the sovereign
confidence crisis is not over so all these auctions are going to
be work,” said Luca Jellinek, head of European rate strategy at
Credit Agricole.

“This is the first auction that settles in the new year and
I think they will continue to be like this with moderate demand
and big concessions.”

BTP futures (FBTPc1: ) were 16 ticks higher at 108.81,
compared with 108.47 ahead of the sale.

Barclays Capital said both Italian bonds offered for sale on
Wednesday had underperformed not only Bunds, but also their
Spanish equivalents since mid-December.
“Past auction concessions have tended to reverse post the
supply and thus we see room for some tightening in the next few
days against both other peripherals and versus the…core,
especially as liquidity conditions normalise,” it said.

The bank’s strategists added that the three-year bond,
trading at a 10 basis point discount to the asset swap curve,
was close to the cheapest levels seen for such a bond.

March Bund futures (FGBLc1: ) were 52 ticks higher at 125.29.
Two-year German bond yields (DE2YT=TWEB: ) were 2 basis points
lower at 0.870 percent, with 10-year yields (DE10YT=TWEB: ) down 4
bps at 2.97 percent.

U.S. Treasuries rallied, pulling Bunds with them, after a
strong seven-year note auction on Wednesday.

The sale followed a disappointing five-year offering on
Tuesday and had the highest participation of bidders other than
primary dealers since June 2009 as investors extended duration
and offset short positions ahead of year-end.

“The low demand scenario didn’t materialise and that
provided some room to rally,” WestLB rate strategist Michael
Leister said.

German 10-year yields are set to end the year around 40 bps
lower than in January after Bunds came under pressure in the
fourth quarter as markets priced in a better global economic
outlook and worried over the cost to Germany if more indebted
euro zone countries need bailing out.

Spanish 10-year yields have risen almost 150 bps over the
year, the most since 1999, according to Reuters data, and
Portuguese 10-year yields are up around 270 bps, the most on
record, at 6.8 percent.

“We expect the selling pressure on peripheral paper to
continue given the underlying fundamental problems of too high
funding costs and too low growth are still in place,” WestLB’s
Leister said.

Pressure is expected to resume in the new year on Portugal
and other euro zone states struggling to address the debt and
banking problems at the heart of the region’s debt crisis.

Debt-laden Portugal said on Wednesday a planned steep
reduction in its fiscal deficit would enable it to scale back
government bond issuance next year [ID:nLDE6BS10J].

“If they come to the market in Q1, the funding costs will be
unsustainable and at the end of the day Portugal will also have
to request external aid,” Leister said.

EURO GOVT-Italy sells bonds to modest demand, Bunds rise