Euro zone yields edge lower ahead of key inflation data, markets fully price a 50bps ECB hike

·2 min read

By Samuel Indyk

LONDON, Aug 10 (Reuters) - Euro zone bond yields crept lower on Wednesday ahead of hotly anticipated U.S. inflation data as Refinitiv data showed that traders have priced in a second consecutive 50 basis-point hike from the European Central Bank at its September meeting.

Euro zone money markets are now pricing in a 100% chance of a 50 basis-point hike from the ECB next month, up from 95% on Tuesday and around a 50% chance last week, the Refinitiv data showed.

Traders have also increased their bets on another 75 basis-point hike from the Federal Reserve next month following last week's better-than-forecast jobs data, which helped lift yields away from last week's multi-month lows.

"The ECB are definitely going to try to front load as much as they can," said Ben Laidler, global markets strategist at eToro.

"I think that makes sense given that they were late to race."

The ECB began their tightening cycle by raising interest rates by 50 basis points in July, later than most other major global central banks.

On Wednesday, German yields were edging lower ahead of the U.S. consumer prices data, which is expected to show a slowdown in headline inflation but an acceleration in core CPI.

At 0814 GMT, Germany's 10-year government bond yield was down 2 basis points at 0.901%. The two-year yield was down 1 basis point at 0.572%.

"It feels a little bit like the calm before the storm," eToro's Laidler said, ahead of the U.S. inflation report.

"If the underlying numbers show a deceleration, then maybe that gives the Fed, and ultimately the ECB, some room to ease off the interest rate pedal later in the year."

Meanwhile, Italian bonds have outperformed, with the 10-year yield down 4 bps to 3.019%. Bond yields move inversely with prices.

The closely watched gap between Italian and German 10-year yields tightened to 209 bps.

"The current level of spreads are not taking into account the political volatility and our scepticism over the ECB TPI (Transmission Protection Instrument)," Mohit Kumar, interest rate strategist at Jefferies, wrote in a note.

TPI is the ECB's new bond purchases team aimed at helping more indebted euro countries.

"We maintain the view that spreads will reach 245-250bp level sometime before the elections, but the trade may really start to perform towards end August early September," Kumar added.

Italy heads to the polls on Sept. 25, with the mainly right-wing bloc expected to win a majority in both houses of parliament. (Reporting by Samuel Indyk; editing by Philippa Fletcher)