Bunds retreat, trade choppy before EU summit

LONDON: German government bonds fell on Tuesday as equities rose on upbeat earnings, with trading likely to stay volatile ahead of Wednesday's European summit, where deep divisions threaten to derail a comprehensive plan to tackle the debt crisis.

Bund futures traded in an 80-tick range in ultra-thin volumes with long-term investors seen sidelined before the outcome of the summit. Sharp differences over the extent of losses private holders of Greek bonds would have to accept remain a huge risk to a successful outcome.

"The movements that we are seeing just fickle position squaring before the meeting," Sean Maloney, a rate strategist at Nomura, said.

"We're shifting between glass-half-full, glass-half-empty and we are doing it on a continuous basis. With the flow of headlines that we are getting it's very difficult to form any sort of conviction around the price action."

The December Bund future was last 33 ticks down on the day at 134.45, having fallen as low as 134.21 earlier.

The contract had risen as high as 135.00 on fresh doubts European leaders would deliver on their promises of sweeping new measures to solve the region's two-year debt problems.

BIG BAZOOKAS

Highlighting market nervousness, European Central Bank governing council member Lorenzo Bini Smaghi urged leaders to take a robust approach to tackling the crisis.

He said while it was very difficult to secure political consensus for using "bazookas", having a financial arsenal large enough to respond was crucial.

Adding to the uncertainty, German lawmakers secured a full parliamentary vote on euro zone crisis measures negotiated by Chancellor Angela Merkel and her peers, a move which risked delaying Europe's response to the two-year crisis.

Merkel will not be able to agree to changes to the 440 billion euro European Financial Stability Facility (EFSF) without approval of parliament.

"You'd imagine things aren't going to get sorted out in a few minutes... We are sticking to our view that the summit will under deliver when (the plan) is finally announced," a trader said.

Cash 10-year Bund yields were 1.5 basis points up at 2.13 percent , having traded in a 1.985 percent to 2.25 percent range over the past week.

"I don't see any reason why we can't go up and down 20 basis points in yields on very little news at the moment," the same trader said.

Trade in peripheral euro zone debt was also hamstrung by investor nerves before the summit, with Italian 10-year yields little changed on the day at 5.976 percent, with equivalent Spanish yields flat at 5.56 percent.

Both remained within a whisker of the highest levels since August before the ECB started buying the countries' bonds in secondary markets.

Pre-summit nerves were also making it harder for strategists to adopt longer-term trading positions, with Maloney at Nomura saying most trades were tactical rather than strategic.

"We are pretty wary around the outcome so we wouldn't be buying the higher beta-type of country spreads like Belgium and France aggressively. We would stay away from them," he said.

Copyright Reuters, 2011