April 5, 2012 / 8:14 AM / 6 years ago

EURO GOVT-Bunds hold gains as Spanish worries grow

* Bunds buoyed by growing Spanish worries

* More pressure on Spanish bonds expected

* France to sell up to 8.5 bln euros of bonds

By Kirsten Donovan

LONDON, April 5 (Reuters) - German government bonds held on Thursday near three-week highs touched the previous day after doubts over Spain’s ability to meet budget targets hit investor demand at debt auctions, rekindling funding concerns for lower-rated euro zone states.

Spanish bonds are likely to stay under pressure in the near term after borrowing costs jumped at the auctions, although some of the sharp rise in yields may be due to thin trading prior to the Easter holiday..

“Cracks are appearing again, Spanish spreads over Bunds are wider than they’ve been all year, so it’s not looking pretty,” a trader said.

“There’s no reason not to buy any dips in Bunds. People are unlikely to want to be short going into the long weekend given the backdrop.”

Spanish 10-year yields were half a basis point higher at 5.72 percent, after rising around 30 bps on Wednesday. The yield differential over Bunds, at 392 bps was its widest since late November, before the European Central Bank flooded the banking system with a trillion euros of three-year cash.

ECB President Mario Draghi said on Wednesday that any talk of a withdrawal of the exceptional crisis-fighting measures would be premature.

Equivalent Italian yields, which were dragged higher in tandem with Spain on Wednesday, were down half a basis point at 5.37 percent.

“There’s been a lot of negative news on Spain over a sustained period of time but market sentiment was being buoyed by strong auction results until yesterday,” said Rabobank rate strategist Lyn Graham-Taylor.

“It’s quite a dangerous time and if the market starts to panic then the sky’s the limit, although you may see some policy action come into play.”

The Spanish/German yield spread was around 475 bps in November, even with the ECB buying bonds in the secondary market, a programme that has been mostly dormant this year.

June Bund futures were two ticks higher at 138.44 after rallying to their highest level in over three weeks on Wednesday, Ten-year yields were flat at 1.79 percent, close to the bottom of this year’s trading range.

The futures will need to break above Wednesday’s 138.74 high to extend gains, potentially to March’s high of 139.06.

Later on Thursday, France will sell up to 8.5 billion euros of bonds.

“(The auction) should be fairly well bid based on recent history and interpolating between a very strong German and a rather so-so Spanish auction yesterday,” Credit Agricole strategists said.

French yields rose as dealers tried to cheapen paper heading into the auction. The 10-year spread over Bunds was 4 bps wider at 120 bps.

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