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Euro zone bond yields edge higher, trade war caution persists

Credit: REUTERS/VASILY FEDOSENKO

Government bond yields in the euro area were just a touch higher on Monday as stock markets rallied, with caution over U.S.-China trade talks continuing to support fixed income markets.

By Dhara Ranasinghe

LONDON, Nov 18 (Reuters) - Government bond yields in the euro area were just a touch higher on Monday as stock markets rallied, with caution over U.S.-China trade talks continuing to support fixed income markets.

Borrowing costs in Germany and France notched up their biggest weekly falls since September last week but were in a slightly defensive mode as a new week brought a better tone to risk assets.

World shares were close to a record high .MIWD00000PUS, after Beijing surprised markets by trimming a key interest rate for the first time since 2015.

Ten-year bond yields across higher-rated debt markets were around one basis point higher on the day, but analysts said selling was limited by uncertainty surrounding U.S./China trade talks.

President Donald Trump had not yet agreed to remove any tariffs as part of a trade deal, and the size of China's commitment to purchase U.S. farm products was not yet clear, Commerce Secretary Wilbur Ross said on Friday.

"Sentiment globally is a bit better today, but the way bond markets are trading right now is really around trade war headlines," said Pooja Kumra, European rates strategist at TD Securities.

In Germany, the euro zone's benchmark bond issuer, 10-year yields were up 1.1 bps at -0.32% DE10YT=RR, but not far off more than one-week lows reached last week at -0.35%.

The yield fell almost 7 bps last week in its biggest weekly decline since September.

"The market clearly took back some positivity last week. This seems to be driven in part by rising scepticism on the timing of a phase-one (trade) deal," said Henry Occleston, a rates strategist at Mizuho. "We see relative strength in the Bund persisting, particularly against Spanish and Italian bonds."

In a note, analysts at UniCredit said that if a phase-one trade deal occurs, 10-year U.S. Treasury and German bond yields could rise another 10 to 20 bps before questions are raised about the next phase of talks.

But if the current discussions fail and tariffs are increased, U.S. Treasury yields -- currently around 1.84% US10YT=RR -- could fall to around 1.5% and Bund yields could drop closer to -0.6%, they said.

While higher-rated bond markets such as German, French and Dutch ones rallied last week, pushing borrowing costs lower, southern European debt markets have sold off.

Analysts say this is because of renewed political uncertainty, a desire by investors to lock in profits before books are closed for the year, and a growing sense that the bar to further European Central Bank stimulus is high.

Southern European bond yields fell in Monday trade, with the Italian/German 10-year yield gap at 162 basis points DE10IT10=RR -- down from last week's two-and-a-half-month highs above 170 bps.

Germany's 10-year Bund yieldhttps://tmsnrt.rs/2prRz7o

(Reporting by Dhara Ranasinghe, editing by Larry King, Kirsten Donovan)

((Dhara.Ranasinghe@thomsonreuters.com; +442075422684;))

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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