Euro zone bond yields fall again, Fed in focus

LONDON: Euro zone government borrowing costs edged down on Wednesday as battered bond markets found more stable ground, with trading generally subdued as investors waited for the US Federal Reserve to announce a likely tapering of its bond purchases.

Having risen sharply over the past week on expectations for higher inflation and interest rates, bond yields have pulled back from multi-month highs as investors reassess their most aggressive pricing for European Central Bank rate hikes over the next year.

Italian 10-year bond yields, for instance, fell 13 basis points (bps) on Tuesday in their biggest one-day fall since May 2020. They were down 2 bps in early trade at 1.06%, moving further away from Monday's more than one-year highs near 1.29%.

German bond yields too were lower, with 10-year Bund yields down around 2 bps at -0.18% and holding below roughly 2-1/2 year highs hit last week at -0.064%.

Data released on Tuesday showed ECB bond buying slowed last week. The central bank bought a net 7.526 billion euros ($8.72 billion) of assets as part of its quantitative easing programme, below the 28.166 billion euros it purchased a week earlier.

Reduced ECB support helps explain the sharp rise in bond yields over the past week, analysts said.

Also, bond markets have become more volatile in recent months, with yields swinging sharply as investors try to assess the outlook for inflation and what that means for ECB policy.

For now, calm took hold as focus turned to the Fed, which concludes a two-day meeting later in the session.

Markets are almost certain the Fed will taper its $120 billion-a-month asset purchase programme but are looking to see if policymakers will give any hints about the possibility of interest rate hikes next year.

"As both taper start and pace have been clearly communicated, today's announcement should catch no one by surprise," said Michael Leister, head of interest rates strategy at Commerzbank.

"On the contrary, it may trigger some "buy-the-fact" trades, as (Fed Chief Jerome) Powell could be inclined to strike a more dovish tone on rates and play down the flow impact from tapering."