Bunds fall as shares bounce, Germany rules on aid

LONDON: German government bonds retreated from record highs on Wednesday as equities reversed some of their recent losses and Germany's top court rejected suits aimed at blocking Berlin's participation in bailouts for indebted euro zone countries.

Bunds briefly extended their losses after the Constitutional Court ruling, though a clause in the ruling giving parliament a bigger say in euro zone rescue packages was seen making it more difficult aid to be delivered quickly.

"It may slow things down a bit but the least of the worries about the EFSF (rescue fund) amendments being passed are to do with Germany," said Rabobank rate strategist Lyn Graham-Taylor.

"Everyone is slightly holding their breath at the moment because so much is still up in the air."

Bunds did not stray far from their record highs with Europe's drive to halt the crippling two-year debt crisis looking increasingly shaky, leaving the potential for safe-haven German debt to rise even further.

Doubts about the will in Italy and Greece to push through austerity measures demanded by their partners, hardening opposition to further aid from chief paymaster Germany, and worries about bank funding have rattled financial markets.

"There's been a lot of pessimism priced into the market this week but we're grinding through the worst of it so understandably we've had a mini pull-back here. But event risk remains high and we expect more pitfalls to come," said Nomura rate strategist Sean Maloney.

Italy's Senate will vote on a package of austerity measures later on Wednesday after yielding to growing calls for the package to be reinforced , while Greece pledged to speed up privatisations and structural reform.

But a lasting solution still appeared distant.

Slovakia faces an uphill battle in parliament to conclude the ratification process for the euro zone's rescue fund, a row over collateral for Greek bailout loans rumbles on and Cyprus weighed in, saying it was considering asking the ECB to buy back government bonds held by domestic banks.

Yields on 10-year Italian debt dipped after rising around 40 bps in the last week, but shorter-dated yields were up to 15 bps lower.

Italian paper is likely to come under renewed pressure before an auction next week, at which Rome will offer a new five-year bond , if the European Central Bank does not step up its secondary market bond purchases.

"If the ECB sees solid commitment to the austerity measures they might be more aggressive in their purchases," Maloney said. "The auction should go OK, but it's the price action around it that will determine whether it was a success or a failure."

Traders said the ECB was buying small amounts of Italian bonds after scaling back its purchases on Monday.

September Bund futures were 57 ticks lower at 138.04 with benchmark 10-year yields up 6 bps at 1.871 percent. Traders said investors remained reluctant to enter the market with so much uncertainty over the debt crisis.

CONSOLIDATING

Technical analysts, as well as traders, said the Bund was consolidating recent gains before a possible rise towards 140.00 on a break above Tuesday's 138.86 high.

The short-term correction could see the contract fall as low as 135.30, with 136.26 as a first target, Societe Generale said.

Analysts and traders also said the Swiss National Bank's decision to set an exchange rate cap on the soaring franc could benefit triple-A rate euro zone bonds.

RBS strategists said the last time the SNB intervened it bought German, French and Dutch paper up to five-year maturity.

"We expect a richening here in asset-swap given that the flows could be even larger now and for German paper...add to already existing global central bank demand."

Commerzbank calculated the SNB could have bought around 30 billion euros of triple-A rated paper in August, based on the increase in foreign reserves.

Copyright Reuters, 2011