German yields near multi-year highs, spreads widen before central bank meetings

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German government bond yields edged lower on Monday but still within striking distance of their highest since June 2015 as investors braced for Federal Reserve and Bank of England policy meetings this week.

Inflation remained the main concern for investors, after last week’s euro zone data drove yields back towards their recent highs.

Fed policymakers look set to deliver a series of aggressive interest rate hikes until the summer to deal with hot inflation and surging labor costs, even as two reports on Friday showed tentative signs both may be cresting.

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The Fed Open Market Committee (FOMC) meeting ends on Wednesday, while BoE policymakers will gather on Thursday.

Germany’s 10-year government bond yield, the euro zone benchmark, fell 1.5 bps to 0.924%, just below its highest since June 2015 of 0.974%..

“With the UK bank holiday today and markets focussed on the central bank and payroll risks later in the week, we see chances for Bunds to stabilize near 1% in 10/30y yields while swaps and the periphery still look more exposed,” Commerzbank analysts said in a note to clients.

London markets are closed for the early May public holiday.

“The ECB seems to adopt a laissez-faire approach regarding fragmentation for now,” they added, referring to yield spread widening which could hamper the transmission mechanism of monetary policy.

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In an interview on Sunday, Luis de Guindos, vice-president of the ECB, said that “the risk of fragmentation has not materialized, but it’s something we are monitoring.”

“We currently don’t see any tensions in this respect, and the situation is in no way comparable to 2011 and 2012,” de Guindos added.

Italy’s 10-year government bond yield rose 1.5 bps to 2.796% after hitting its highest since March 2020 of 2.839%, with the spread between Italian and German 10-year yields widening to 187.2 bps, its widest since June 2020.

“We don’t see room for further strong selling pressure on Italian government bonds,” Luca Cazzulani, head of strategy research at Unicredit, said.

“The ECB has expressed willingness to preserve conditions for a smooth transmission of monetary policy,” he added.

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The spread between 10-year Spanish and German yields rose 6 bps to around 105 within striking distance of its highest since May 2020 of 107.9 recently hit.

Also the Portugal-German spread was at its widest since May 2020.

Real yields were not far from levels set on March 11, the day after the ECB policy meeting, showing that inflation expectations led to the recent nominal yield repricing.

Germany’s 10-year inflation-linked yields were down 2 bps to -1.85%, from around -1.9% on March 11.

A market gauge of euro zone inflation expectations edged lower to 2.4922% after rising to 2.566%, the highest since 2012, according to ECB data.

Money markets are still pricing in around 90 bps of ECB rate hikes by year-end.

(Reporting by Stefano Rebaudo; editing by Kirsten Donovan and Toby Chopra)