Supply avalanche keeps upward pressure on euro zone bond yields

LONDON: Anticipation of some 35 billion euros of new government debt issuance this week and recovering risk sentiment kept upward pressure on bond yields on Tuesday, despite more weak data from Germany and a drop in euro zone economic sentiment.

Austria, Germany and the Netherlands kicked off issuance with auctions on Tuesday, and Ireland and Portugal are widely expected to add to recent syndications from Belgium and Slovenia.

Core euro zone bond yields, including Germany -- the benchmark for the region -- inched higher, tracking a late move in U.S. Treasuries on Monday.

The expected supply outweighs any downward pressure from falling German industrial output which will likely add to concerns about European growth, according to Christoph Rieger, rates strategist at Commerzbank.

"What is more important than the tier two macro data is the avalanche of supply in European government bonds and SSA (supranational, sub-sovereign and agency), as well as the U.S. refinancing which starts today," he said.

German industrial output unexpectedly fell in November for a third consecutive month, data showed on Tuesday, in a further sign that Europe's largest economy shifted into a lower gear in the final quarter of 2018.

The data raised concerns that Germany slipped into a technical recession in the fourth quarter, reflected by the five-year five-year forward, a market gauge of long-term inflation expectations, falling to its lowest since June 2017 on Tuesday.

Euro zone economic sentiment deteriorated markedly and by more than expected in December, European commission data showed on Tuesday.

"The industrial production basically confirms what the PMIs were telling us," said Mizuho rates strategist Peter Chatwell.

"If you look at where yields were on the German curve, this sort of downside was already priced in."

But investors remain focused on the stronger than expected U.S. employment data and soothing comments from Fed Chair Jerome Powell on Friday which saw core eurozone yields rise from two year lows hit on January 3.

Powell said the Fed will be patient and sensitive to market risks, alleviating concerns about a global economic slowdown.

Germany's 10-year government bond yield rose two basis points in early trade to reach 0.234 percent, its highest level this year, before easing back to 0.23 percent, while 10-year bond yields from other core European governments were also around two basis points higher.,.

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Austria sold 600 million euros of bonds maturing in 2028 and 500 million of 2047 government bonds, while the Netherlands raised 1.55 billion euros from bonds maturing in 2023 and Germany sold 398 million euros of its 2030 bund on Tuesday.

Analysts expect supply for the first full week of 2019 to surpass that of the same week last year.

While low bond yields should result in lower all in funding costs for these issuers, the glut of supply is expected to mean that new issue concessions - the extra premium governments must offer to entice investors to buy new debt - could creep up.

"Rich market levels mean this week's auctions will be a test for the market," wrote Societe Generale in a note to clients.