BUSINESS

Peripheral eurozone bond yields rise further as EU elections loom

Portuguese bond yields touched a two-month high on Wednesday as a sell-off in lower-rated eurozone bonds deepened amid concern that European Union elections this week might derail economic reforms.

Weaker global equities also soured appetite for riskier assets, prompting some investors to book profits from a two-year peripheral eurozone bond rally that has driven weaker states' borrowing costs to historic lows.

The rally hit the brakes after a strong showing by Greece's anti-austerity Syriza party during local elections at the weekend, underscoring the potential that Eurosceptic parties might do well in EU polls starting on Thursday.

That could cause unstable coalitions to change course to regain popular support and reawaken fears about debts and budget deficits. Greece, where the ruling parties have the smallest majority, is seen as the biggest risk.

"We have seen since last Thursday some corrective action in these markets ahead of the EU elections. This can go further,» said Matthias van der Jeugt, a strategist at KBC.

"We set absolute lows (in bond yields) during the rally that has been going since summer 2012 so some correction was eventually due.»

Portuguese 10-year bond yields rose as much as 12 basis points to 4.14 percent, the highest since March, according to Reuters data. They have risen almost 70 bps in the past week from an 8-1/2-year low of 3.43 percent hit a week ago.

Italian equivalents rose to their highest in nearly two months before retreating slightly with investor focus also on a debt swap in Rome aimed at smoothing the country's debt repayments. Spanish yields rose to levels last seen early last month of 3.17 percent.

Traders say investors were also overloaded with peripheral debt after buying 5 billion euros of Spanish inflation-linked bonds and 14.25 billion of Italian debt last week and were scaling back positions before more bond sales this week.

Spain plans to sell up to 3.5 billion euros of bonds on Thursday. Italy is offering up to 2.5 billion of five-year bonds in exchange for some 2015 and 2017 bonds.

Many in the market expect a resumption of the peripheral bond rally once the EU elections are out of the way, given expectations that the European Central Bank will inject more monetary stimulus next month.

"We have not changed our view in that our target for 10y BTP/Bund spread is still 100 basis points, however it seems investors will seemingly need to be patient for a market reversal,» RBS strategists said in a note.

Italy's 10-year bond yield premium over German Bunds was around 192 bps on Wednesday, its highest in nearly three months. [Reuters]

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