German bond yields plumb record lows as pressure grows on ECB to act

Shoaib Ur Rehman July 25, 2019

LONDON: Core German government bond yields fell to record lows on Thursday, dragging a wide swathe of European yields lower as a streak of dismal economic data prepared the ground for a key European Central Bank policy meeting later in the day.

German business morale deteriorated more than expected in July, hitting its lowest level since April 2013, the monthly Ifo institute survey showed on Thursday.

That followed a flash Purchasing Managers’ Index (PMI) reading on Wednesday that showed business growth across the euro zone has been much weaker than expected this month.

Although a majority of economists in a Reuters poll expect a deposit rate cut only in September, weak data has raised pressure on ECB officials and sent core German bond yields deeper into negative territory.

On Thursday, benchmark 10-year German Bund yields fell to a record low of minus 44.3 bps, more than 4 bps below the ECB’s deposit rate at minus 40 bps.

“Today the Ifo isn’t a surprise after yesterday’s data, and it adds to the ongoing deterioration,” said Michael Leister, rates strategist at Commerzbank.

“We are calling for rate cuts and it is worthwhile keeping in mind that it is also about QE (asset purchases), which is moving into market focus.”

Money markets are now pricing in around a 50% chance of a 10 basis point rate cut by the ECB at that meeting, while a 10 bps cut is fully priced in for September’s meeting.

PERIPHERY RALLY

A stellar first half for bond markets in Europe got fresh legs after ECB President Mario Draghi’s June speech in Sintra, Portugal, where he flagged downside risks to the euro zone economy had not increased over that period.

German yields are down by more than 70 bps since then, while yields in the peripheral economies such as Italy and Portugal are down by more than 100 bps over that period. The euro has weakened by nearly 2pc since then.

Increasingly negative yields in the core European bond market has forced investors to buy relatively higher yielding debt in peripheral economies such as Greece and Italy.

Swiss 50-year borrowing costs fell below 0pc on Thursday for first time since August 2016, meaning Switzerland’s entire government bond market now trades with negative yields.

On Thursday, yields on benchmark 10-year Greek government debt fell back below 2pc, meaning borrowing costs for an economy that once faced a chaotic exit from the euro zone are cheaper than for the United States, the world’s biggest economy and bond market.

“Yesterday’s PMI misses raise the risk that the ECB delivers easing ahead of schedule today, rather than providing a cutting bias to the forward guidance,” Peter Chatwell, head of rates strategy at Mizuho said in a daily note.

Copyright Reuters, 2019

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