LONDON: Euro zone government bond yields dropped by more than 10 basis points on Friday after the US Federal Reserve prolonged the era of nearly-free money amid concerns about a weak world economy.
The US central bank said on Thursday that an array of global risks and other factors had convinced it to delay what would have been the first rate increase in nearly a decade.
The Fed maintained its bias towards a rate rise this year, with 13 of 17 policymakers still foreseeing at least one rise in 2015, although that was down from 15 at the June meeting.
The US central bank meets again in October and December. "For some time now the Fed has made clear its intention to raise rates this year," said Societe Generale strategist Ciaran O'Hagan.
"But after nine years of no hike, it is proving hard to press the button."
German 10-year yields, the euro zone's benchmark, fell 11 basis points to 0.67 percent, a touch above last week's close of 0.66 percent. Lower-rated equivalents in Spain and Italy fell 14-15 bps to one-month lows of 1.96 percent and 1.78 percent respectively.
Worries about a slowdown in China and low inflation are holding the Fed back despite solid domestic growth and labour markets. In Europe, these factors have led the European Central Bank to signal it may enlarge its money-printing programme.
"The Fed decision improved the environment for core bonds and there is currently little, if any, potential upward pressure on yields coming from the monetary policy stance of either of the G3 central banks," said UniCredit rate strategist Luca Cazzulani. Before the Fed meeting, the gap between short-dated US and German bond yields had struck its widest level since 2007.
It narrowed by around 10 bps to 0.90 percentage points after the Fed decision.
"Despite the dovish tint from the Fed, we continue to favour lift-off in the coming couple of quarters, and as a consequence we view the Fed's decision last night as tainted with an uncomfortable vulnerability," said ING strategist Padhraic Garvey.
POLICY MISTAKE?
Some investors say the Fed may have made a policy mistake that could spell trouble longer term by fuelling asset bubbles that destabilise markets and economies.
"It is the first time in my life as a bond fund manager that I wish for a rate hike," said Eric Vanraes, fixed income portfolio manager at EI Sturdza Investment Funds.
"Money must have a value. Free money is not good long-term for the market." Vanraes sticks to top-rated assets, saying "in this period I don't care about the yield".
The broad-based rally across euro zone debt markets was even felt in Greece, which is gearing up for elections on Sunday.
All polls show the Syriza party of former prime minister Alexis Tsipras and the New Democracy of Vangelis Meimarakis running neck and neck.
Both have pledged to uphold the terms of the country's 86 billion-euro bailout.
They disagree on pivotal matters such as loosening the labour market, collective bargaining and immigration. Greek 10-year yields were 18 bps lower at 8.26 percent on Friday, with two-year yields down 37 bps at 10.79 percent.
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