Euro zone bond markets look to ECB for stimulus clues

LONDON: Euro zone government bond yields were flat to a touch lower on Thursday, before a European Central Bank meeting that investors suspect could signal more stimulus given weak inflation and a firm euro.

Calm prevailed ahead of the ECB policy decision at 1145 GMT and news conference at 1230 GMT.

Having acted aggressively in recent months to protect the economy from the coronavirus shock, the ECB is not expected to take any major policy action.

But inflation has turned negative and a strong euro, which adds to downward pressure on prices, has raised concern about long-term price growth that could force the ECB to act again soon.

The euro has firmed 8% against the dollar since the spring and more than 4% against a basket of currencies weighted by the bloc's foreign trade.

"I don't think the move in the euro has been sufficiently big to be a real concern but it's just against the backdrop of everything else that is happening that means it's not particularly welcome news," said Anatoli Annenkov, senior European economist at Societe Generale.

He expects the ECB's emergency bond buying programme to be extended and expanded by a further 500 billion euros in October or December.

Germany's 10-year bond yield was steady at -0.46% , holding above two-week lows hit the previous session around -0.51%.

Most other long-dated bond yields in the euro area nudged down with 10-year yields in southern Europe 2-3 basis points lower on the day .

The closely-watched Italian/German 10-year bond yield gap hovered at 152 bps -- almost 20 bps tighter than where it traded at the time of the ECB's July meeting.

The ECB's growth and inflation projections to be published later in the day will only show slight changes compared with the bank's June forecasts, Bloomberg reported on Wednesday.

Brian Coulton, chief economist at Fitch Ratings said that aggressive ECB policy action had helped boost inflation expectations and that deflation in the single-currency bloc should be avoided.

"While we don't think they (the ECB) will hit their target, we do think they will manage to avoid outright deflation," he told an online conference on Wednesday.

The ECB has undershot its near 2% inflation target for the past seven years.

Elsewhere, the three-month Euribor rate edged up from a record low of -0.493% hit on Wednesday.

Given a decline in Euribor fixings, a change in the tiering multiplier would be a "wildcard" in terms of potential ECB action on Thursday, ING analysts said in a note.