Euro zone bond yields fall on expectations of further easing

Euro zone bond yields fell on Friday, as data showing a bigger-than-expected decline in German producer prices reinforced expectations for ECB monetary easing next month to boost low inflation and growth.

German producer prices fell 2.4 per cent in January from a year earlier, more than the 2 per cent drop economists forecast in a Reuters poll. Other data showed Finnish consumer prices were flat in January from a year ago .

The reports come a day after minutes from the European Central Bank’s January meeting showed concern that low inflation could become embedded, with some policymakers advocating pre-emptive action in the face of new threats.

Euro zone money markets fully price in a 10-basis-point cut in the ECB’s deposit rate to minus 0.40 per cent at the ECB’s March 10 meeting. Another cut of 10 basis points is priced in for later in the year.

"The economic data we've been seeing and the minutes suggest the ECB will deliver in March," said Patrick Jacq, Europe rate strategist at BNP Paribas. "Markets fully price in a 10-basis- point cut and are also starting to price in the chance of a 20- basis-point cut."

While long-term inflation expectations in the euro zone have pulled back from record lows reached last week, they remain low.

The most widely followed measure of the market’s long-term inflation expectations for the euro zone - the five-year, five-year, breakeven forward - is at 1.45 per cent and below the ECB’s inflation target of close to 2 per cent. Germany’s 10-year Bund yield fell 3 basis points to 0.18 per cent, heading back towards last week’s 9-month low of 0.13 per cent. Most euro zone equivalents fell by 1 to 3 bps. Two-year yields were about 2 basis point lower at minus 0.52 per cent and within sight of record lows set last week .

BREXIT RISKS

Analysts said safe-haven German bonds also drew support as a two-day summit between Britain and the European Union dragged on, with EU partners determined to limit concessions to help keep Britain in the bloc. An agreement that would allow British prime minister David Cameron to campaign in favour of staying in the EU at a June referendum still seemed feasible.

But with no deal reached on Friday morning after all-night talks, some leaders and diplomats said the outstanding issues were proving tough to crack.. No country has ever voted to leave the Union.

Britain is the EU’s second-largest economy and one of its two permanent members on the UN Security Council. Its exit would end the vision of the EU as the natural home for European democracies and reverse the continent’s post-World War Two march toward “ever closer union”.

The yield gap between 10-year British government bonds and their German peers was about 120 basis points, close to its widest level in two weeks. "Now that we're really into the EU summit discussions, it's(Brexit risk) becoming a bit more real, and that could be adding to people wanting to stay on the safe side and buy Bunds," said DZ Bank strategist Christian Lenk.

Reuters