November 22, 2018 / 8:44 AM / 23 days ago

Italy's bond yields edge back up, but calmer phase seen for BTPs

* Euro zone periphery govt bond yields tmsnrt.rs/2ii2Bqr

By Dhara Ranasinghe

LONDON, Nov 22 (Reuters) - Italy’s bond yields rose on Thursday, unwinding some of the previous day’s sharp falls, after Deputy Italian Prime Minister Matteo Salvini said the country would not backtrack on its expansionary 2019 budget.

Borrowing costs elsewhere in the bloc mostly inched lower, and a holiday in the United States for Thanksgiving Day meant trading was generally subdued.

Italy remained in focus a day after the European Commission took the first step towards disciplining the country over its budget after Rome refused to change it, a move that could eventually lead to fines.

On Thursday, Salvini, also leader of the ruling League party, reiterated that the government would stick to its fiscal plans for 2019, which Brussels says contravenes EU rules.

While Italian bond yields faced some upward pressure, analysts said signs of a compromise should help limit selling.

Newspaper La Repubblica said on Thursday that Italian President Sergio Mattarella wanted Prime Minister Giuseppe Conte to reach a deal with the European Union.

The report added that the country’s two deputy prime ministers did not want to negotiate with the EU over the budget, while Il Messaggero said the League was open to changing the budget law.

European Union Economics Commissioner Pierre Moscovici told another Italian newspaper that it was “imperative” to have a dialogue with Italy over the budget.

“We need to see if there’s any substance about there being a compromise but there is that hope,” said Orlando Green, European fixed income strategist at Credit Agricole.

Having tumbled 14 basis points on Wednesday in its biggest one-day fall since early September, Italy’s 10-year bond yield rose 3 bps on Thursday to 3.51 percent.

The gap over German Bund yields widened to 315 bps , but held below one-month peaks hit on Tuesday at 335 bps.

Analysts said Wednesday’s Italian bond rally perhaps also reflected a covering of short positions once a highly-anticipated event - the EU’s reaction to the resubmitted budget - passed as expected.

Mizuho rate strategist Antoine Bouvet said the Commission’s action opened a new, calmer, phase for the Italian/German bond spread.

“For one thing, the recommendation to reopen the EDP (excessive deficit procedure) for Italy was widely expected. Secondly, it was not the worst-case scenario for BTPs, as swifter steps could have been taken,” he said.

“Thirdly, the action taken yesterday implies a lengthy process that should see its conclusion well into 2019.”

Focus turned to supply from France and Spain as well as the minutes of the European Central Bank’s October meeting.

Analysts said they would be looking for any signs that the central bank was mulling a fresh round of cheap multi-year loans to banks to help bolster the euro zone economy. (Reporting by Dhara Ranasinghe; editing by John Stonestreet)

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