Euro zone bond yields rise ahead of central bank meetings

Yet it hit a one-month low of 1.967% on Jan. 18 as investors hoped falling energy prices and cooling inflation would allow the ECB to stop hiking interest rates sooner than previously expected.

European government bond yields edged higher on Friday as traders looked ahead to the European Central Bank's interest rate decision next week. Germany's 10-year bond yield, the benchmark for the bloc, was up 2 basis points (bps) at 2.24%, having earlier reached a two-week peak of 2.283%.

The afternoon softening echoed a decline in U.S. Treasury yields after the Federal Reserve's favoured inflation measure -- the Personal Consumption Expenditures (PCE) index -- came in broadly in line with expectations, removing one potential hurdle to the Fed stepping down its pace of interest rate increases to 25 bps on Wednesday. Yields across the euro zone rose this week after a spate of ECB officials, including President Christine Lagarde, made clear they expect interest rates to keep rising as the central bank battles persistent inflation.

Traders think a second consecutive 50 bps hike from the ECB on Thursday is almost nailed on. The ECB has already raised its main rate to 2%, from a record low of -0.5% in July 2022. The market is expecting the rate to peak at around 3.3% in late summer, according to pricing in futures markets.

"The beginning of the year, we had a remarkable rally in safe-haven bonds, specifically (German) Bunds," said Richard McGuire, head of rates strategy at Rabobank. "Now as we head into the ECB there's certainly an element of caution. We're pausing in terms of trying to understand where the next moves might be."

European government bonds have bounced around so far this year. The yield on Germany's 10-year bond was at an 11-year high of 2.569% at the turn of the year after the ECB hiked interest rates hard in 2022, causing investors to demand higher returns on bonds. Yet it hit a one-month low of 1.967% on Jan. 18 as investors hoped falling energy prices and cooling inflation would allow the ECB to stop hiking interest rates sooner than previously expected. Yields move inversely to prices.

INFLATION DATA Italy's 10-year yield was up 6 bps to 4.23%, retreating, like its German equivalent, from a two-week top of 4.273% touched before the U.S. data.

The closely watched gap between Germany and Italy's 10-year yields widened to 197.4 bps, the most since Jan. 10. It has increased since touching an eight-month low of 164 bps on Jan. 19. Germany's two-year bond yield, which is highly sensitive to interest rate expectations, was up 2 bps on Friday to 2.59%.

The Federal Reserve and Bank of England also decide interest rates next week. "The key driver (for bond markets) will be when the Fed suggests they are done," said Pooja Kumra, rates strategist at Canadian bank TD.

"That's what markets want to hear next week but I think that's not what the Fed wants to deliver. So it could come as a disappointment." The Bank of Canada, on Wednesday, was the first major central bank fighting global inflation to say it would likely hold off on further increases for now after hiking its key rate by 25 bps to 4.5%, the highest level in 15 years.

As well as the central bank meetings, traders are also looking towards next week's preliminary euro zone inflation data for January, which is due on Wednesday.

(This story has not been edited by Devdiscourse staff and is auto-generated from a syndicated feed.)