German bond yields dipped to a one-week low on Monday after European Central Bank (ECB) policymakers signalled interest rates would remain low, supporting the view that any exit from stimulus would be very gradual.
Jan Smets, the ECB governing council member from Belgium told Reuters in an interview that euro zone inflation could take longer to rise than anticipated and that the ECB should not accept below-target price growth. He added that the ECB had not even started a discussion about revising its monetary policy framework or even its so-called forward guidance.
Smets echoed ECB executive board member Benoit Coeure who said short-term interest rates would stay at “very low levels”, underpinning sentiment just days after the ECB gave up a pledge to increase bond purchases if needed but signalled a slow route out of its stimulus.
While investors bet that a rate rise from the ECB remained some way off, firm US jobs data on Friday reinforced expectations the Federal Reserve will lift rates this month and diverging rate views pushed out the gap between US and German bond yields once more.
The US/German 2-year yield spread was at 289 basis points, its widest in over 20 years.
The gap between 10-year US and German bond yields hovered under 227, its widest in more than 14 months as 10-year German bond yields fell to a one-week low at 0.625%, before inching up to 0.633 pct.
“The lack of reaction to the strong US jobs report in European fixed income is a sign that the ECB meeting last week, by showing no inclination to rush toward the exit, has given fresh legs to the US-Europe divergence trade,” said Mizuho rates strategist Antoine Bouvet.
Uncertainty in Italy
German short-dated bond yields also fell, while yields on other higher-rated euro zone debt were down 1-2 bps on average .
Portuguese and Spanish bond yields outperformed, dropping 3-4 bps , even though expectations of heavy bond supply limited the fall in yields.
Italy, the Netherlands, Germany, Portugal, France and Spain are expected to auction up to 30 billion euros ($37 billion) in bonds between them.
The increase in supply, along with uncertainty over the make-up of the next Italian government after an inconclusive March 4 election, could pressure Italian bonds.
Italy’s 10-year bond yield inched up 2 bps in late trades while its yield spread over its German counterpart was at 137 bps, having widened from 135 bps on Friday.
“It is an open race as to who will form the next Italian government and this uncertainty is starting to weigh on spreads,” said DZ Bank rates strategist Daniel Lenz.
The defeated centre-left Democratic Party (PD) could give a majority to either the conservative bloc or the anti-establishment 5-Star. Outgoing leader Matteo Renzi has said that his party will head into opposition and ruled out any alliance.
The PD meets on Monday to start plotting a new course after their election rout. “Markets will be watching how the PD splits between backing Renzi or helping other parties in forming a government,” said ING senior strategist Martin Van Vliet.