German yields see biggest daily gain in a month on U.S. debt hopes

Reuters

* German yields track U.S. equivalent higher

* Republicans to offer Obama short-term rise in debt limit

* Italian debt outperforms after solid debt sales

By Ana Nicolaci da Costa and Emelia Sithole-Matarise

LONDON, Oct 10 (Reuters) - German bond yields saw theirbiggest daily gain in a month on Thursday as signs Washingtonwas moving towards breaking a stalemate over debt and averting apotential U.S. default hurt demand for safer assets.

German Bund futures tracked their Treasury counterpartslower as Republicans said they will offer President Barack Obamaa short-term increase in the federal debt limit if he will agreeto negotiate with Republicans on a broad range of fiscal issues,including funding to reopen the government. nL1N0I00XS

The backdrop helped fuel a rally in Italian bonds whichoutperformed most euro zone counterparts after solid debt salesthis week and after a successful vote of confidence last week.

President Barack Obama will meet with Senate Republicans onFriday to discuss how to end the U.S. government shutdown and alooming deadline to raise the nation's debt limit, a Republicanspokesman said.

"It is simply hope that we are going to get a (temporary)increase in the debt limit... the threat of default shoulddisappear fairly quickly and the Bunds have been breaking downon that," David Keeble, global head of fixed income strategy atCredit Agricole said.

"Italy has gone through its political crisis and it's got alittle bit of catch-up to do particularly to Spain," he said.

German Bund futures settled 59 ticks down at139.65. Ten-year German government bond yields jumped 5.6 basis points to 1.87 percent - its biggest daily gainin a month.

Italian bonds outperformed most other euro zone debt, withyields falling 3.6 basis points to 4.33 percent -one day before an the country sells more bonds.

ITALY OUTPERFORMS

Rome followed up a robust syndicated sale of 5 billion eurosof a new seven-year bond on Wednesday with an 8.5 billion euroauction of one-year Treasury bills. It drew healthy appetite,with yields falling to their lowest in four months.

Spain had a similar solid result with its sale on Wednesdayof 31-year paper, its first ultra-long debt sale since 2009.

Italy will offer a further 6 billion euros of bonds onFriday, capitalising on a relief rally as concerns aboutpolitical instability wane after the government won a confidencevote last week.

"Demand for the debt sales was pretty impressive.Distribution of syndicated deals looked pretty healthy," saidHarvinder Sian, a rate strategist at RBS.

"The market has taken on the duration, the high 31-yearissuance in the periphery space, got past that and is nowrallying. It also does help that risk assets are rallying withthe debt ceiling debate looking less tense in the U.S."

Italian yields fell back below Spain's, as Italian debtrecouped some of the ground lost when a political crisis inItaly was weighing on appetite for its debt.

Ten-year Spanish government bond yields were1.5 basis points higher at 4.35 percent.

After this week's solid debt sales, both countries will havemet more than 80 percent of their borrowing needs for this year.

The feel-good factor spread to other periphery, with 10-yearGreek yields falling to their lowest since early June.

Greece posted a central government surplus in the first ninemonths of the year excluding debt servicing costs, putting it ontrack to hit fiscal targets that open the way for debt relieffrom its international lenders.

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