LONDON: The post-ECB rally in euro zone government bonds came to a halt on Tuesday as investors became wary that the U.S. Federal Reserve could signal this week that it expects to hike interest rates further in coming months.
The Bank of Japan's removal from its statement of language that it would cut rates further into negative territory if needed also reminded markets of policymakers' reluctance to experiment further with this instrument.
European Central Bank President Mario Draghi said last week he did not anticipate further rate cuts, briefly dampening enthusiasm for a wider easing package, including accelerating bond buying to 80 billion euros a month from 60 billion.
In the United States, the Fed is not expected to raise rates on Wednesday, but is likely to make clear that as long as U.S. inflation and jobs continue to strengthen, economic weaknesses overseas would not stop rates from rising.
Fresh forecasts from the Fed's 17 officials released after the meeting are expected to signal two or three rate hikes this year in projections known as "dot plots", economists predict and Fed officials themselves have suggested.
German 10-year Bund yields, the benchmark for euro zone borrowing costs, were flat at 0.28 percent, having fallen as low as 0.237 percent on Monday.
"The Fed meeting is important because ... there is a risk of a hawkish statement," RIA Capital Markets bond strategist Nick Stamenkovic said. "Investors will wait for the statement and the dot plots before taking new positions."
Other euro zone bond yields were flat or slightly higher, with Portuguese bonds underperforming their peers, having outperformed them in the rally. Data on Monday also helped lift the market out of a gloomy mood which last month seemed to prepare Bund yields for another test of the zero level.
Industrial production in the 19-member single currency zone was 2.1 percent higher in January than in December, comfortably beating expectations.
"Digesting the ECB package and getting prepared for the Fed decision tomorrow evening -- being right in the middle of two highly important events, the fixed income universe is trading mostly sideways," UniCredit strategists said in a note.
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