Spain's borrowing costs will likely fall at a bond auction on Thursday, drawing investors on hopes the country will soon sign up for a rescue package, though their patience may be wearing thin.
The Treasury will sell between 3 billion euros (2.41 billion pounds) and 4 billion euros split between two short-dated bonds and one five-year issue, a week after the government presented a budget for 2013 that aims to chop away at the public deficit.
Spain is at the sharp end of the euro zone debt crisis as it weighs applying for an aid package that would pave the way for the European Central Bank to buy its bonds.
Its debt yields soared over the summer and then fell sharply in August after the ECB announced a bond-buying programme designed to bring down Spain's financing costs and those of other struggling euro zone states.
The longest dated bond on offer on Thursday should sell for around 4.7 percent, compared with close to 6.5 last time it auctioned on July 19.
"Markets are still anticipating Spain will make a request for help, which is keeping yields down. But that will not last forever if Spain keeps delaying. For Thursday I don't see any concerns over the auction," said Ioannis Sokos, strategist at BNP Paribas.
On Tuesday, Prime Minister Mariano Rajoy said a European bailout package was not imminent, following a Reuters report that said Spain was ready to call for aid but that Germany was urging the country to wait.
Spain will likely need help to manage its financing costs as its economy is expected to be mired in recession this year and next, increasing doubts among investors that it can meet its deficit reduction targets.
Spain's debt auctions have relied on the willingness of domestic banks to invest as their foreign counterparts dump the country's paper, which could be downgraded this month to junk status by Moody's.
The rating agency said on Tuesday that its review of Spain, expected to be published in September, would now come this month as it considers the impact of the 2013 budget and the results of an audit of the country's crippled banking system.
Data released this week by the Treasury showed that for the first time since 1995 domestic banks owned more Spanish debt in August, at 36 percent, than foreign investors, at 34 percent.
"This is a worrying and unsustainable trend and would be massively helped if Spain called for a rescue," said Sokos.
The ECB holds a policy meeting on Thursday that, for the first time in months, will focus on interest rates and whether they can be reduced to support the region's recession-bound economy.
Despite the grim economic backdrop, Thursday's sale should go relatively well given the expectations that Spain will apply for aid.
All three bonds have relatively short maturity dates, and two would fall under the ECB's bond buying programme should Spain make a formal request for help.
Following secondary market pricing as a guideline, the yield on the bond maturing in 2014 will be around 3.1 percent, down from 5.204 percent last time. The 2017 bond should drop from 6.459 percent. Both were last sold in July.
The yield on the 2015 bond will likely be little changed from the 3.845 percent it sold at on September 20.
($1 = 0.7731 euros)
(Reporting by Nigel Davies; Editing by Fiona Ortiz; Editing by John Stonestreet)