Italian bonds rally as ECB soothes nerves ahead of referendum

LONDON : Low-rated euro zone government bond yields fell sharply and Italy’s spread to German equivalents came off recent highs on Thursday on growing confidence the ECB will support the market in a difficult political environment.Italian, Spanish and Portuguese bond yields were down 6-8 basis points on Thursday after the European Central Bank flagged political issues in the eurozone, which the market took as a statement of intent to provide stimulus if needed.

The ECB said on Thursday that financial stability risk is rising in the euro zone and concern may re-emerge about whether some countries can sustain their debt, potentially raising pressure on the bloc’s weakest sovereigns.

“It gives us higher confidence that the (ECB’s) asset purchase programme will be extended,” said Mizuho rates strategist Peter Chatwell.

“If they see political tensions in the eurozone as rising, that will affect inflation and growth expectations, which in turn suggests the central bank will have to continue to provide stimulus.”

He added that a report that the ECB will make its securities lending programme more accessible also suggests that the central bank is preparing for an extended period of quantitative easing.

Central bank sources told Reuters on Wednesday the ECB is looking for ways to lend more of its pile of government debt to avert a freeze in the 5.5 trillion-euro short-term funding market.

Strategists said the report has strengthened confidence the ECB is prepared to alleviate liquidity concerns, and that has given them confidence to buy euro zone government bonds.

The yield on Germany’s 10-year government bond, the benchmark for the region, was down 1.2 basis points to 0.27 percent by 1145 GMT.

There were deeper falls lower down the credit spectrum. Italy’s 10-year government bond yield fell 7 basis points to 2.07 percent at one stage, reducing its spread to German equivalents to 180 bps.

However, this is still only 6 bps below the 186 bps reached earlier in the week, which was higher than any other closing price for the Italy-Germany spread since May 2014.

Italy will vote in a Dec.4 referendum on political reforms on which Matteo Renzi has staked his job.

On Wednesday, minutes of the U.S. Federal Reserve rate-setting meeting in early November showed policymakers appeared confident on the eve of the U.S. presidential election that the economy was strengthening enough to warrant interest rate increases soon.

The minutes were released after strong U.S. data. New orders for manufactured capital goods rebounded last month on rising demand for machinery and equipment, while consumer sentiment rose this month.

This saw the U.S. currency climb past more of last year’s peaks against the euro on Thursday. The dollar index hit 102.01 in early trades, up 0.2 percent to its highest level in almost 14 years.