Eurozone bond yields higher as German business sentiment hits 2-1/2 year highs

A Bank of England meeting later on Thursday could further push up bond yields if policymakers suggest that massive stimulus could be taken away sooner than expected as the economy bounces back from the COVID-19 shock. "Bond markets appear to have found a new balance after the Fed-induced volatility eruption last week," said Christoph Rieger, head of rates and credit research at Commerzbank.

Government bond yields in the euro area drifted higher on Thursday, with news that German business morale is at its highest in 2-1/2 years adding to brightening prospects for the region's economy. The Ifo institute said its business climate index hit its highest level since November 2018 on companies' surging optimism about the second half of the year in Europe's largest economy.

On Wednesday, IHS Markit's Flash Composite Purchasing Managers' Index, seen as a good guide to economic health, jumped to 59.2 in June, its highest reading since June 2006. Analysts expect signs of a strengthening economy to keep upward pressure on borrowing costs. Germany's benchmark 10-year Bund yield rose to -0.17%, up to one basis point on the day.

It has risen around 12 basis points from lows hit a day after the European Central Bank's reaffirmed its dovish policy stance at a June 10 meeting. A hawkish shift by the U.S. Federal Reserve last week added to upward pressure. A Bank of England meeting later on Thursday could further push up bond yields if policymakers suggest that massive stimulus could be taken away sooner than expected as the economy bounces back from the COVID-19 shock.

"Bond markets appear to have found a new balance after the Fed-induced volatility eruption last week," said Christoph Rieger, head of rates and credit research at Commerzbank. "While Bunds stabilized, the long-end curve re-steepened further and (inflation) break-evens re-widened, suggesting that fundamentals are slowly taking over from positioning again."

The five-year, five-year breakeven inflation forward, a market gauge of long-term inflation expectations in the euro area, rose to almost 1.58%. That's up sharply from almost two-month lows hit last week. Elsewhere, Italy started marketing a new CCTEU bond maturing on April 15, 2029, which it plans to sell via a pool of banks.

"The maturity of the new floater will be longer than usual. In our view, this reflects Italy’s objective of lengthening its debt maturity," analysts at UniCredit said in a note. Italy's 10-year bond yield was last up just half a basis point at 0.90%.

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