LONDON: Investors sold euro zone government bonds on Monday after 10-year US Treasury yields headed towards the psychologically significant 3-percent mark as rising commodity prices forced inflation expectations higher.
Signs of a thawing of relations between the United States and China, and North Korea’s decision to suspend nuclear tests are taking the edge off the flight-to-safety bid and therefore also putting upward pressure on yields, analysts said.
The yield on 10-year US Treasuries was within a shade of 3 percent, hitting 2.998 percent in European trade, and the spread over the German equivalent was briefly at its widest level in 29 years.
Analysts and investors say that should Treasury yields push past 3 percent, that would signal the start of a bear mearket for bonds and produce levels which have triggered market spasms in the past.
As the session wore on, many euro zone government bond yields began to match the rise in US borrowing costs, and were up 2-4 basis points (bps) across the board.
German 10-year yields were at their highest in six weeks at around 0.635 percent, up 4 bps on the day.
Apart from the fact that the sovereign bonds from the world’s major economies tend to track one another as investors switch between them, Europe potentially faces the same inflation pressures as the United States from commodities prices.
“Every time you go to the gas station the price is higher – Brent crude is now close to $75 (a barrel) and that has had a knock on effect on government bonds,” DZ Bank analyst Rene Albrecht said.
Brent crude hit $74.15 a barrel on Monday, having hit its highest level since December 2014 the week before at $74.75.
“With pressure from oil, and also aluminium and steel prices, the inflation topic has made a kind of comeback after being derailed by the trade dispute headlines,” Albrecht said.
A market gauge of long-term euro zone inflation expectations, the five-year five-year forward swap , last Thursday hit its highest level since mid-March at 1.697 percent.
The US equivalent on Monday hit its highest level since November 2014.
“Inflation in the US is more sensitive to oil prices than many other regions so it makes sense for inflation expectations to rise there,” Mizuho strategist Antoine Bouvet said.
“Also to an extent the sell-off has to do with geopolitical tensions seeming to have eased a little,” he said.
North Korea said on Saturday it would immediately suspend nuclear and missile tests, scrap its nuclear test site and instead pursue economic growth and peace, ahead of planned summits with South Korea and the United States.
There were also signs that relations between the world’s two largest economies may improve, after US Treasury Secretary Steven Mnuchin said on Saturday he is considering a trip to China to work on trade issues.
Elsewhere, Italy’s 10-year government bond yield spread over Germany moved to its tightest since August 2016 at 116 bps, defying concerns over a growing political impasse as Italian parties struggle to form a governing coalition.
Later this week, analysts will be keeping an eye on the European Central Bank meeting on Thursday for any signs on how policymakers will unwind extraordinary stimulus.
Source: Brecorder
