Italian stocks, bonds recover ground as election risk abates

Reuters

By Lisa Jucca

MILAN, Sept 30 (Reuters) - Expectations that a rebellionwithin Silvio Berlusconi's party may avoid snap elections inItaly pulled bond yields off the day's highs and curbed stockmarket losses.

Investors had sold Italian government bonds and sharesearlier on Monday after Berlusconi pulled the rug from underPrime Minister Enrico Letta's frail coalition government byordering five centre-right ministers to quit.

But the market turned after Reuters reported that as many as20 senators from Berlusconi's centre-right party were ready tobreak away unless the media tycoon backed down from his hardline. This may help Letta build a new workable majority.

"The market turned as the rebellion within Berlusconi'sparty is dimming the prospect of snap election," a trader at aprimary Italian bond dealers said.

Berlusconi, 77, is facing eviction from parliament after atax fraud conviction.

His weekend decision to try and topple Italy's coalitiongovernment had initially spooked investors who feared politicalstrife within the euro zone third largest economy may ripplebeyond the country's borders.

Rome has failed to reform its electoral law and investorssaid snap elections would lead to political paralysis.

After an initial spike, yields on Italy's 10-year bond, agood indicator of long-term sentiment towards Italy, weretrading at 4.59 percent at 1445 GMT, the same level they stoodat on Friday before the political crisis flared.

The yields were well below a 7.5 percent peak hit when Italyreached the height of its sovereign debt crisis in 2011.

Shares in Milan's blue-chip FTSE MIB, which hadplunged 2.5 percent minutes after opening, cut their losses andwere down 1.2 percent, with banking stocks and broadcastinggroup Mediaset, controlled by Berlusconi, among theworst-performer.

The index remains on track to end the quarter with a 14percent gain, its best performance since 2009.

TURMOIL

The latest political spat comes as next year's budget law iscurrently under negotiations. Italy is also in the middle ofcorporate turmoil that has prompted management shake-ups at itsbiggest retail bank, Intesa Sanpaolo and telecomscompany, Telecom Italia. No.3 bank Monte dei Paschi diSiena is still waiting for a EU green light to badly-neededstate aid.

Economists at Lavoce.info, a popular Italian independentthink-thank, said the country risked a further downgrade of itscredit rating that could spark a fresh sell off of Italian debt.

"Italy needs to rapidly give a sign of stability to avoidthis scenario," the think-thank said in a statement.

But there are positives.

Economic conditions have much improved since the country'sborrowing costs came close to unsustainable levels in late 2011.Fiscal austerity measures pushed through by former premier MarioMonti are expected to curb fiscal slippage and the Treasury hasalready met 80 percent of its debt funding needs this year.

In addition, many investors take comfort from the EuropeanCentral Bank's bond-buying backstop.

Letta will go before parliament on Wednesday and hold aconfidence vote - a move that will clarify what is left of hisparliamentary backing.

The centre-left politician enjoys a commanding majority inthe lower house but would need to win over a couple of dozensenators from Berlusconi's PDL party or opposition partiesincluding the anti-establishment 5-Star Movement to secureparliamentary support.

This could be within reach if the 20 or so PDL runawaylawmakers agree to back him.

"In our view, new elections are still unlikely this year,with the coalition government likely to gain the confidence votethis week," said Alberto Gallo, credit analyst at Royal Bank ofScotland.

"However, the government's ability to pass structuralreforms and handle the crisis around Italy's corporates andbanks remains in question."

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