Expectations of central bank stimulus drive down euro zone bond yields

By: | Published: June 29, 2016 2:44 PM

Southern Europe's borrowing costs fell sharply for a third straight day and French bond yields hit record lows on Wednesday...

Southern Europe’s borrowing costs fell sharply for a third straight day and French bond yields hit record lows on Wednesday, as expectations grow that central banks will act to shore up confidence and the economy after Britain’s Brexit vote.

Spanish government bond yields, down almost 40 basis points so far this week, tumbled to their lowest levels in more than a year and Portuguese yields slid 11 bps to a one-month low.

Yields on Germany’s top-rated bonds were a tad higher but within range of last week’s record lows as the uncertainty triggered by British voters’ decision to leave the European Union kept safe-haven debt in demand.

“In the weeks ahead investors are likely to shift between stimulus hopes and concerns about the fallout from Brexit,” said Martin Van Vliet, senior rates strategist at ING.

European Central Bank President Mario Draghi said on Tuesday that Britain’s decision to leave the European Union could reduce euro zone growth by a cumulative 0.3 to 0.5 percent compared to previous estimates over the next three years.

Investors now fully price in a rate cut in Britain and the euro zone by the end of this year.

The Brexit vote could also be a drag on the U.S. economy, Federal Reserve governor Jerome Powell said on Tuesday — a comment that reinforced market expectations the Fed will no longer be able to hike rates this year and may even be forced to cut if the domestic economy falters.

Japan’s Prime Minister Shinzo Abe meanwhile on Wednesday pledged to use all available policy tools to keep the wheels of the economy turning.

France’s 10-year bond yield hit a record low of 0.23 percent , while Dutch yields also touched a new low of 0.114 percent.

Market moves were most pronounced in peripheral Europe: Spain’s 10-year bond yield fell almost 10 bps to 1.23 percent , its lowest level since April 2015, Italian 10-year hit a more than two-month low and Portugal’s 10-year yield tumbled more than 10 bps to a one-month low of 3.05 percent.

Analysts said investors were also moving into lower-rated southern European debt in an environment where German bonds out to a maturity of 10 years have negative yields – meaning investors pay to lend to Germany.

They warned that the outlook for southern European markets remained uncertain given concerns about economic growth following Brexit.

“Things have calmed down a little after the Brexit outcome but still there is huge risk in the market given that the forecasts for economic growth figures not only in the UK but across Europe are being reversed downwards,” said DZ Bank strategist Daniel Lenz.

“This will have an effect on the EU, including peripheral countries, and weighs very much on the negative side.”

Last week’s referendum has wiped out a record $3 trillion off the value of global shares and sent sterling sliding to its lowest level in 31 years before recovering slighty.

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