Euro zone yields rise ahead of ECB loan repayments


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LONDON — Euro zone government bond yields rose on Friday, but were set for a second successive week of declines for the first time since July, ahead of an update from the European Central Bank on repayments of its emergency loans to commercial banks.

The yield on Germany’s 10-year government bond, the benchmark for the euro zone, was last up 4.6 basis points at 2.08%. Despite also posting gains on Thursday, it is on track for around a 8 basis point weekly drop, after posting a slightly larger fall the previous week.

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Hopes that central banks around the world, and particularly in the United States, are nearing the end of their program of interest rate hikes has been supporting government bond prices this month, particularly after cooler-than-expected U.S. inflation numbers.

Richard McGuire, head of rates strategy at Rabobank, said two factors were driving the rise in European yields on Thursday and Friday – very hawkish rhetoric from the Fed and the British budget.

British finance minister Jeremy Hunt announced a string of tax increases and tighter public spending in a budget planon Thursday and said the economy was already in recession and set to shrink next year

British government bond yields rose as a result, which McGuire said was due to “the double whammy of visible belt tightening being promised – but delayed – which saw the market speculate that the Bank of England does need to do more in the near term (to raise rates).”

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The British 10-year gilt yield was last 3.27% up 7 basis points.

Meanwhile, across the Atlantic, St. Louis Fed President James Bullard said on Thursday interest rates might need to hit a range from 5-5.25% from the current level of just below 4.00% to be “sufficiently restrictive” to curb inflation, sending U.S. Treasury yields higher.

The Italian 10-year bond yield was 6 basis points higher at 3.99% though heading for a 20 basis point weekly fall, its second in succession after dropping 27 basis points a week before.

This would be the first time either Italian or German 10 year yields have fallen for two weeks in succession since July.

With falls in Italian yields outpacing German ones, the spread between the yields on the two countries’ 10 year bonds tightened to 186.9 basis points in early trading, around its lowest since July.

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Also in focus is the ECB which will announce at 1105 GMT how much banks plan to repay of the 2.1-trillion-euros ($2.17 trillion), multi-year credit they have taken under its Targeted Longer-Term Refinancing Operations (TLTRO).

This repayment is voluntary, but the ECB last month incentivised banks to repay by taking away a rate subsidy, and analysts expect lenders to repay around half a trillion euros worth of TLTRO loans at this week’s window.

“A higher-than-expected repayment today could have a negative impact on the front end of peripheral bonds, which were the main beneficiaries of the carry trade,” said analysts at Jefferies who forecast 600 billion in repayments.

A carry trade typically involves borrowing in a currency or market where interest rates are low, to invest in one where they are higher.

The Italian 2-year bond yield was 2.75% in early trading, up 5 basis points. (Reporting by Alun John; Editing by Simon Cameron-Moore and Angus MacSwan)



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