Bloomberg News

German Bonds Fall as Market Trims Bets on ECB Interest-Rate Cut

October 08, 2011

Oct. 8 (Bloomberg) -- German two-year notes fell for a second week as investors pared back expectations for an interest-rate cut after the European Central Bank kept its benchmark rate on hold this week.

Ten-year bunds also posted a weekly decline as ECB President Jean-Claude Trichet opted for non-standard policy measures, including one-year loans for banks, to contain the debt crisis. Belgian 10-year bond yields rose by the most this week since January 2009, as concern deepened that Dexia SA is inching toward a breakup that could further jeopardize Europe’s financial system. Bunds also fell as a report showed U.S. employers added more jobs than forecast in September.

“Bund yields have risen and the bond market is quite right to scale back rate-cut expectations,” said Luca Jellinek, head of European interest-rate strategy at Credit Agricole Corporate and Investment Bank in London. “If a threat of a double dips escalates, I think they will cut rates. But if it’s just the matter of growth slowing, I don’t think the ECB will feel compelled to cut rates given inflation remains elevated.”

Two-year German note yields were five basis points higher from last week at 0.60 percent. They rose as much as 15 basis points on Oct. 6, the biggest gain since Aug. 8. Ten-year bund yields rose 12 basis points to 2.0 percent.

The yield difference between two- and 10-year German bonds widened to 140 basis points from 133 basis points. That’s below this year average of 154 basis points. A narrower spread suggested investors prefer longer-dated bonds on bets inflationary pressure will recede as economic growth slows.

ECB Rates

U.S. payrolls climbed by 103,000 workers after a revised 57,000 increase the prior month that was more than originally estimated, Labor Department data showed in Washington yesterday. The median forecast in a Bloomberg News survey called for a rise of 60,000. The jobless rate held at 9.1 percent.

Italian 10-year bond yields fell two basis points as the European Central Bank bought the nation’s securities nearly every day this week, according to people with knowledge of the transactions.

ECB policy makers, who have raised borrowing costs twice this year, resisted calls for a rate cut on Oct. 6. Instead, Trichet said the central bank will offer banks a 12-month loan in October, and a 13-month loan in December. It will also start buying 40 billion euros of covered bonds in November.

Euribor Futures

The central bank kept interest rates at a record low of 1.50 percent even as Trichet said the downside risks to the economy have “intensified.” The median estimate of 52 economists in a Bloomberg survey was for the central bank to keep rates unchanged. Five predicted the central bank would cut borrowing costs to 1.25 percent, and six said it would lower the rate to 1 percent to boost growth.

Euribor futures fell, pushing the implied yield on the contract expiring in December rising nine basis points to 1.35 percent, signaling that investors reduced wagers on lower interest rates.

The yield on 10-year Belgian bonds rose 33 basis points to 3.98 percent this week, the biggest advance since the week ended June 4, 2010, as Dexia edged toward a breakup.

Dexia shares were suspended in Brussels on Oct. 6 and will resume trading on Oct. 10.

German bonds have handed investors 7.3 percent this year, while U.S. Treasuries have returned 8.8 percent, according to indexes compiled by Bloomberg and the European Federation of Financial Analysts Societies. Belgium’s bonds have returned 2.3 percent while Italy’s have lost 2.2 percent.

--Editors: Matthew Brown, Nicholas Reynolds

To contact the reporters on this story: Anchalee Worrachate in London at aworrachate@hotmail.com

To contact the editor responsible for this story: Daniel Tilles at dtilles@bloomberg.net


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