Bonds Slide As Deflation Slows in Eurozone, ECB Meeting Eyed

Bonds Slide As Deflation Slows in Eurozone, ECB Meeting Eyed

31 May 2016, 13:41
Roberto Jacobs

Bonds Slide As Deflation Slows in Eurozone, ECB Meeting Eyed

The European bonds plunged on Tuesday after May consumer inflation data showed that euro-area deflation eased in May. Also, investors shifted from safe-haven buying after Federal Reserve Chair Yellen said on Friday that tighter monetary policy in the U.S. is warranted if economic data continues to improve.

The benchmark German 10-year bonds' yields, which move inversely to their price rose two basis points to 0.186 percent, French 10-year bunds yield climbed two basis points to 0.523 percent, Irish 10-year bonds yield moved up three basis points to 0.819 percent, Italian equivalents inched up two basis points to 1.385 percent, Netherlands 10-year bonds yield jumped two basis points to 0.397 percent, Portuguese 10-year bonds yield up two basis points to 3.089 percent, Spanish 10-year bonds yield ticked higher one basis point to 1.500 percent and British 10-year bonds yield rose five basis points to 1.487 percent by 10:15 GMT.

The Euro zone preliminary May HICP inflation came out at -0.1 percent y/y, matching consensus expectations, and up slightly from -0.2 percent the previous month. The improvement was driven by increases in food, alcohol, tobacco and non-energy industrial goods. The ex-food-and-energy rate picked up to 0.8 percent y/y from 0.7 percent. Both rates are just two-month highs.

On Friday, the Fed Chair Yellen on Friday said that if economic gains continue and if the labour market continues to improve then it is appropriate for the Fed to gradually and cautiously increase overnight interest rate over time. Although lacking a time factor, this continues to point to increased support for a summer rate hike from the FOMC.

In addition, the European Central Bank is expected to stay on hold at its policy meeting, scheduled on Thursday since certain comprehensive measures that were ruled out in March, are still waiting to be implemented.

Against such a backdrop, the Central Bank is unlikely to act to drop rates any further. Further, the inclusion of corporate bonds to the asset purchase program and the LTROs are likely to occur next month, while the increase in the quantum of the QE program took effect last month, DBS reported. Further, CPI-led inflation in April and May unemployment rate will probably reinforce that inflation will likely to remain on the downside with household sector befits recovering from a sharp turn in the jobs market.

In the meantime, Eurozone’s apex bank predicted that May inflation is likely to fall marginally lower by -0.1 percent on year, compared to -0.2 percent in April, with core inflation modestly moving up. April unemployment rate is seen at 10.2 percent, a shade below 10.3 percent month before.

"Brexit risks will also warrant attention after the BoE outlined a cautious approach towards the impending event risk," DBS said in a research report.

On the other hand, the European bonds have been closely following developments in oil markets because of their impact on inflation expectations, which are well below the European Central Bank's target. Today, the International benchmark Brent futures hovered around $50 mark.

Meanwhile, the pan-European STOXX 600 index was down 0.29 percent and the euro-area blue-chip gauge, the STOXX 50 dipped 0.33 percent. The FTSE 100 Index fell 0.06 percent, the DAX trading 0.30 percent lower and the CAC-40 ticked down 0.29 percent by 10:15 GMT.

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