Eurozone bond yields fall

Eurozone bond yields dipped on Friday as falling oil prices eroded inflation expectations, crystallising bets that the ECB will have to resort to further stimulus early next year. German 10-year yields, the euro zone benchmark, dipped below 0.65 percent, extending falls after Thursday's weak demand for the ECB's bank loans highlighted the problems it faces in inflating its balance sheet in a bid to boost consumer prices.
Even with many expecting France's rating to be downgraded later on Friday, the country's borrowing costs fell 4 basis points to a record low of 0.906 percent on hopes the ECB will buy government bonds in a quantitative easing (QE) scheme. "The lower inflation cements the chances on ECB QE, and until such a day the ECB announces this policy there will be downward pressure on euro zone bond yields," said Mathias van der Jeugt, a rates strategist at KBC.
Oil prices hit yet another five-year low on Friday, compounding losses of more than 8 percent for Brent crude this week. Despite an improved revision for Italian consumer prices on Friday, inflation swap rates imply the country will be in deflation over the next two years. Two-year swap rates for the euro zone are very close to zero. Bond traders said European bond markets were taking momentum from an overnight rally in US Treasuries. Falling oil prices had seen investors switch out of equities into bonds during the US session, creating strong demand for a 30-year bond sale.
Yields on 10-year US Treasuries were nearly 5 basis points lower at 2.13 percent. German equivalents hit a new record low of 0.638 percent, down around 4 bps on the day. Even long-term Greek bond yields - which have shot higher over the last few sessions amid political upheaval in Athens - dipped, although short-dated yields continued their move higher as default fears resurface. A strong rise in output of consumer goods kept euro zone industrial production rising in October, data on Friday showed, while employment also ticked up in the third quarter.
But a downgrade of the bloc's second largest economy France will be a major blow, especially after Italy's rating was slashed by Standard and Poor's last week. Many strategists believe Fitch is almost certain to downgrade France at its scheduled ratings review on Friday, after having cut the outlook on its AA rating to negative in October. "The agency is not alone in questioning the government's commitment to serious reforms and economies, and this should result in a downgrade," said DZ Bank in a note to clients.