Euro zone yields rise, but surging COVID-19 cases fuel caution

LONDON: Euro zone government bond yields rose on Monday as relief from the refloating of the ship blocking the Suez Canal prompted some selling of the safe-haven assets, although rising COVID-19 cases meant investors were still broadly cautious about Europe.

Core euro zone bond yields have fallen in recent weeks as a resurgence in cases of COVID-19 and new lockdowns in Germany, France and elsewhere, rattle investor confidence in the region's economic recovery.

German Chancellor Angela Merkel over the weekend pressured states to step up their pandemic response to try to stem the rise in cases.

But German yields rose on Friday and continued to climb on Monday. The 10-year yield rose 4 basis point to a six-day high of minus 0.32pc.

Last week, the yield fell almost 6 basis points, its biggest drop since December.

Analysts said that a German constitutional court decision on Friday may be pushing yields slightly higher too.

The court said that Germany's president may not sign off on legislation ratifying the European Union's Recover by Fund as long as it was looking into an emergency appeal against the debt-financed investment plan.

German opponents of the EU's fund to aid recovery from the pandemic argue that it violates European treaties by opening the door to joint borrowing by member states.

Berenberg's economist, Holger Schmieding, said that it was hard to comprehend the legal intricacies of the case but even if German ratification was further postponed it was unlikely to cause a significant selloff in euro zone government debt.

"A further delay in payouts from the 750 billion-euro fund well beyond mid-2021 would be unfortunate. But it need not be a major problem even for fiscally challenged countries such as Italy," Schmieding said.

"As long as markets expect that the money would flow a little later, countries could likely continue to borrow at rates that are very low by historic standards."

INFLATION DATA

Bond investors are preparing for euro zone and U.S consumer confidence data due on Tuesday, as well as preliminary euro zone inflation numbers.

German bond yields have fallen in March while U.S. Treasuries have risen after fears of a spike in U.S. inflation sparked a significant selloff.

With the European Central Bank increasing the pace of its asset purchases and Europe's slow vaccination rollout, euro zone bonds have outperformed. But some analysts reckon the trend could start to unwind.

Mizuho analysts note that the consensus for the German inflation reading is 2pc year-on-year.

"While the euro zone aggregate is expected to remain at 1.1pc, these sorts of German numbers should assist the market in pricing a narrative that inflation is building in Europe," they said, forecasting that Bunds would "underperform UST (U.S. Treasuries) going forward".

Other core euro zone bond yields were higher by 2-3 basis points as were peripheral yields.

This week sees end-of-quarter investor rebalancing of portfolios before liquidity drops during the Easter holidays.