Spain's stocks and government bonds were in demand on Wednesday after Catalonia's leader stopped short of making a formal declaration of independence, taking the edge off a political crisis in the euro zone's fourth biggest economy.
Carles Puigdemont instead made only a symbolic declaration late on Tuesday, claiming a mandate to launch secession but suspending formal steps to that end.
"There was a chance Puigdemont would have made a decisive declaration, so now yields are dropping because there is room for negotiation left," said DZ Bank strategist Christian Lenk.
"Now the haggling continues and the ball is in the hands of Madrid."
Spain's benchmark IBEX closed 1.3 percent higher, outperforming the pan-European STOXX 600 index, which was unchanged on the day.
Shares in Spanish banks Sabadell and CaixaBank , which have moved their legal bases from Catalonia to other parts of Spain since an Oct. 1 independence referendum, rose 1.2 percent and 0.3 percent respectively.
The rally in Spanish stocks pushed the main global stocks index, MSCI's 47-country All-Country World Index, to a fresh record high of 493.63 points.
Spain's 10-year government bond yield - which moves inversely to the price - dropped 6 basis points to 1.64 percent, according to Tradeweb data.
The gap between Spanish and German 10-year government bond yields narrowed to 117 bps. It had widened to 136 bps last week.
Spanish government bond yields had risen sharply over the past week and a half after Catalans voted overwhelmingly, albeit on a low turnout of 43 percent, for independence in the referendum banned by authorities in Madrid.
While the Spanish government does not recognise the referendum or Catalonia's right to break away, Foreign Minister Alfonso Dastis said early on Wednesday that there was room for talks within the framework of Spain's existing constitution.
Though Spain was the outperformer on the day, other Southern European government debt was also in demand: Italian and Portuguese 10-year yields dropped 3 and 7 bps, respectively.