LONDON: Germany's benchmark 10-year government bond yield fell below the European Central Bank's deposit rate for the first time on Thursday, the latest sign that markets are braced for interest rate cuts soon.
German Bund yields have tumbled over 65 basis points this year and the drop below the ECB deposit rate shows the scale of the shift in expectations among investors for more European Central Bank monetary easing to shift low inflation.
"It is quite astonishing," said Tim Graf, chief macro strategist at State Street Global Advisors in London.
"It's reflective of the fall in inflation expectations which has been persistent and the reaction of central banks, hinting at rate cuts and potentially a package of easing," Graf said.
The German Bund yield fell to -0.409%, dropping below the ECB's deposit rate of minus 0.4%.
Earlier this week Britain's 10-year government bond yield fell below the Bank of England's bank rate for the first time in a decade after dovish comments from BoE Governor Mark Carney.
The last time 10-year bond yields in the euro zone's biggest economy fell near ECB rates was during the global financial crisis.
In December 2008, the ECB depo rate was 2.75% and the 10-year Bund yield fell to 3.04%. Germany's Bund yield dipped briefly below the ECB's main refinancing rate on Dec. 12, 2008.
The deposit rate has become the ECB's de facto policy tool since 2015, when the ECB cut the rate but left its other interest rates unchanged.
At current levels, the cost to banks for holding long-dated German government bonds is higher than depositing cash at the ECB.
Triple-A rated German bonds, used as collateral by banks, have been squeezed by falling supply in recent years and central bank asset purchases, putting downward pressure on yields.
These structural factors help explain why German 10-year yields have fallen below a key ECB interest rate but they didn't during the global crisis - largely because back then, the euro zone central banks were not snapping up Bunds at the same pace.
Because only banks have access to the ECB's deposit rate facility, the move in Bund yields below ECB depo rates is less significant, according to Lyn Graham-Taylor, fixed income strategist at Rabobank.
"If we look back the deposit rate has been -40 basis points since March 2016 but other German bond yields have been miles lower," he said. "You can argue all sorts of theories about why Bund yields should never trade below the deposit rate. However, there is a massive short fall of AAA assets."
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