Core euro zone bond yields struggled to find much uplift on Friday morning, a day after falling sharply due to downbeat comments from ECB President Mario Draghi, who acknowledged weaker economic growth in the bloc. Core yields in the bloc fell to two-week lows after an ECB news conference on Thursday at which Draghi acknowledged key economic risks, ranging from trade wars to Brexit.
This pushed back further the expectations of when the ECB will hike rates, fuelling the bid for bonds.
German business sentiment declined for the fifth month in a row, data showed on Friday, providing more evidence that economic growth in Germany has stalled. The yield on Germany's 10-year government bond, the benchmark for the region, fell 4.6 basis points on Thursday, its biggest one-day drop since January 2, and was last up half a basis point on Friday at 0.185 percent. French 10-year government bond yields also fell by almost five basis points to 0.59 percent on Thursday, and were last flat on the day. Spanish 10-year government bond yields, which dropped 8.2 basis points a day earlier, extended falls 1.21 percent, its lowest level since April.
Draghi's comments on Thursday will likely fuel market speculation that the bank will delay any rate hike, mirroring a more cautious approach by the US Federal Reserve, and suggesting that the ECB's outlook is increasingly aligning with market expectation.
The governing council expects key interest rates to remain at their present levels at least through the summer of 2019. But markets have already pushed out the first hike expectations to June 2020, wrote Shweta Singh, Managing Director, Global Macro at TS Lombard, in a note published on Monday. In addition to the scaling back of rate hike expectations, investors now expect a new round of cheap multi-year loans to banks, known as Targeted Long-Term Refinancing Operations (TLTRO), to be announced in March.
TLTROs would be especially beneficial to Italian banks, which explains the strong rally in Italian bonds, Bouvet said. This helped the recent rally in Italian government bonds gather momentum. Italy's 10-year bond yield fell three basis points in early trade to 2.64 percent, extending the eight basis point fall seen on Thursday to open at its lowest level since July 2018. However this had eased off as the session wore on to trade flat on the day.
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