Euro-zone bonds thrive as talks of an ECB rate hike intensify


Euro-zone government bond yields rose and spreads widened on Tuesday, as inflation data and comments from European Central Bank officials cemented concerns that the ECB could accelerate its monetary tightening stance.

Inflation rose to a record high in May, beating analysts’ forecasts and suggesting that it’s not just energy driving headlines anymore.

ECB policymaker Peter Kazimir said in an interview that he would prefer a rate hike of 50 basis points (bps) in September after 25 bps in July.

His remarks were followed later in the afternoon by ECB policymaker Pablo Hernandez de Cos, who said the ECB should not pre-commit a rate path given the current economic and geopolitical uncertainty.

Money markets increased their bets on future ECB tightening, discounting more than 115 basis points by the end of the year from 110 basis points last week. They are also pricing in a 40% chance of an additional 25bps move beyond the 25bps already fully priced in for July.

“Despite Lagarde’s call for ‘gradualism’, which implies a 25 basis point rate hike in July and a further 25 basis point move in September, the market continues to price in a 50 basis point risk in July,” said Rohan Khanna, research strategist at UBS.

ECB President Christine Lagarde has advocated a phased approach to tightening monetary policy while reassuring that the ECB is free to react to the impact on the economy and the inflation outlook if interest rates rise.

The 10-year German government bond yield, the bloc’s benchmark, rose 7.7 basis points to 1.122 percent, its highest in over three weeks.

The two-year yield, which is more sensitive to the ECB’s rate hike path, rose 3.5 basis points to 0.527 percent, its highest since November 2011.

“The market expects the HICP (harmonized index of consumer prices) to peak at 8.8% in September, so the inflation story in Europe is not over yet,” argued UBS’s Mr Khanna.

“In this scenario, it is fair for the market to price in a risk premium for faster normalization, resulting in a bearish picture for the bond market,” he added.

The 10-year Italian government bond yield rose 14 basis points to 3.135 percent, the highest since May 10. Euro-zone bonds thrive as talks of an ECB rate hike intensify

Fry Electronics Team

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