Euro zone yields rise as rush to safe-haven assets pauses

BY Reuters | ECONOMIC | 07/04/22 03:43 AM EDT

By Stefano Rebaudo

July 4 (Reuters) - Euro zone government bond yields rose on Monday as investors took a break from their rush late last week into safe-haven assets amid recession fears.

Analysts continued to fear recession over inflation while scaling back their expectations about future European Central Bank (ECB) interest rate rises.

Money markets were pricing in around 135 basis points of ECB rate hikes by year-end, from 140 bps last week and 155 bps the week before.

Citi analysts said a range of 1% to 1.5% for the 10-year Bund yield looked fairer than 1.5% to 2%, adding there were reasons to be uncertain.

ING analysts also said yields might have peaked recently but they argued implied volatility remained high and could still lead German borrowing costs to 2%.

Germany's 10-year government bond yield, the bloc's benchmark, rose 3.5 bps to 1.27%.

Trading was thinned by the U.S. Independence Day holiday.

"Further downside for short-end rates looks limited," Commerzbank analysts said.

"Further disappointing (economic) activity data could thus turn the latest bullish steepening into a long-end flattening. We still suggest buying Bunds into dips," they added.

The spread between Germany's 10-year and 2-year bond yields widened from 40 bps in mid-June to around 80 bps last week. It was at 68.9 on Monday.

Italy's 10-year government bond yield rose 6.5 bps to 3.27%, with the spread between Italian and German 10-year yields widening to 199 bps.

Investors will focus on Italian Prime Minister Mario Draghi and the leader of the 5-Star Movement (M5S), Giuseppe Conte, meeting to try to resolve tensions that could bring down Draghi's 16-month-old government.

"We expect the prime minister to go a long way in his attempts to reach a compromise that would keep the M5S on board," Unicredit analysts said.

The Federal Reserve and the ECB will issue minutes from their last policy meetings on Wednesday and Thursday.

"We'll see how central banks were thinking about this weak growth vs labour tightness dilemma, but this will be slightly dated in light of how rapidly the macro is evolving," Deutsche Bank analysts said. (Reporting by Stefano Rebaudo, editing by Bradley Perrett)

In general the bond market is volatile, and fixed income securities carry interest rate risk. (As interest rates rise, bond prices usually fall, and vice versa. This effect is usually more pronounced for longer-term securities.) Fixed income securities also carry inflation risk and credit and default risks for both issuers and counterparties. Unlike individual bonds, most bond funds do not have a maturity date, so avoiding losses caused by price volatility by holding them until maturity is not possible.

Lower-quality debt securities generally offer higher yields, but also involve greater risk of default or price changes due to potential changes in the credit quality of the issuer. Any fixed income security sold or redeemed prior to maturity may be subject to loss.

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