German 2-year yields set for weekly drop ahead of inflation data

By Stefano Rebaudo

Jan 30 - German two-year government bond yields were set for their biggest weekly drop since October, with investors betting the European Central Bank will factor in the deflationary drag from a stronger euro as it shapes its policy outlook.

Investors ?are also awaiting the release of January inflation data from German states later on Friday.

The ?euro hit a five-year high against the greenback on Tuesday after U.S. ?President Donald Trump said the value of the dollar ?was "great" when asked ?if he thought it had declined too much.

German 2-year yields, which are more sensitive to expectations ?for policy rates, were up 0.5 ?basis points (bps) at 2.06%. They were on track for a weekly decline of 6.5 bps, the biggest since October.

Money markets ?priced in a chance of around ?30% ?for an ECB rate cut in September, up from less than 10% a week ago, while indicating a 20% probability of a rate hike ?in April 2027, down from 50%.

Germany's 10-year government bond yield, the euro area's benchmark, rose 1.5 bps to 2.87%.

Long-dated U.S. Treasuries were sold in early London trading on Friday, with benchmark 10-year yields up 4 bps at 4.27%, on speculation Trump would nominate former Federal Reserve ?Governor Kevin ?Warsh to head the U.S. central bank and that he would push to reduce the amount of bonds the bank ?owns.

The 30-year yield was up 1.5 bps at 3.49%. It rose to 3.556% in late December, its highest since summer 2011.

The yield gap between French government bonds and safe-haven Bunds - a market gauge of the risk premium investors demand to hold French debt - widened to 58 bps after hitting a fresh 19-month low ?of 55.26 bps on Tuesday.

Italy's 10-year government bond yields rose 0.5 bps to 3.52%. The gap versus Bunds was at 58 bps after tightening to 53.50 bps in mid-January, ?its lowest level since August 2008. (Reporting by Stefano Rebaudo; Editing by Thomas Derpinghaus)