Italian government bonds were on Friday headed for their best week since September 2012, boosted by a benign European Central Bank announcement on interest rates and this week's positive comments on the euro from Italy's anti-establishment government.
Both Italy's 10-year and two-year government bonds have gone a long way this week towards erasing the losses suffered through May as the anti-establishment coalition of 5-Star Movement and League was being formed. The ECB said on Thursday it will finish its bond-buying scheme by the end of the year, but it signalled that any interest rate hike is still distant, boosting demand for euro zone government debt.
"It's not very often that a central bank commits itself to a certain interest rate path over such a long period of time," said DZ bank strategist Daniel Lenz. "It really helped the periphery, especially Italy. Given the uncertainty in Italian politics, it helps now that overall conditions are improving."
Even though ECB policymaker Ewald Nowotny said on Friday that the bank should normalise policy as soon as "technically possible", this wasn't enough to prevent yields from falling further.
Most euro zone government bond yields tumbled on Thursday - France and Ireland saw the biggest one-day drop in 10-year borrowing costs in at least six months.
But Italy, one of the most heavily indebted countries in the continent, is one of the biggest beneficiaries of lower rates. The euro zone's third-largest economy saw its 10-year yields drop 15 basis points on Friday to 2.60 percent and on track for its biggest weekly drop since September 2012, down nearly 52 bps on the week.
Its two-year bond yields are down 100 bps this week, set for its biggest weekly drop since March 2012. Some of that move came earlier in the week, after new EU Affairs Minister Paolo Savona - previously considered the government's leading eurosceptic - called the single currency "indispensable". The closely watched Italy/Germany 10-year bond yield spread is now at its tightest in two weeks at around 218 basis points; though still double April's tightest levels of 111 bps.
"(Italian) BTPs were weak ahead of the ECB but now have no excuse for nervousness on this front... there is scope for BTPs to perform as long as the government makes no radical announcements before the 2019 budget is revealed in September," Societe Generale analysts said in a note. Other euro zone bond yields were down 4-11 bps on Friday, even though euro zone inflation was confirmed at 1.9 percent for May, close to the ECB's target. In Germany, markets were volatile as Chancellor Angela Merkel scrambled to hold together her conservative alliance while she pushes other European Union member states to show greater solidarity on the issue of distributing refugees. Germany's 10-year government bond yield, the benchmark for the bloc, was 4 bps lower at 0.39 percent.
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