Euro zone bond yields jump after US jobs data shifts rate outlook

Euro zone government bond yields jumped the most in three months on Friday, after data showing an unexpected surge in U.S. job growth prompted a rapid reassessment of how many rate cuts major central banks might deliver in 2024.

Euro zone government bond yields jumped the most in three months on Friday, after data showing an unexpected surge in U.S. job growth prompted a rapid reassessment of how many rate cuts major central banks might deliver in 2024. The U.S. Labor Department said 353,000 workers were added to non-farm payrolls in January, well above the 180,000 forecast in a Reuters survey and above December's upwardly revised 333,000.

Wage growth also picked up more than expected and unemployment fell, adding to the view expressed by the U.S. Federal Reserve this week - and echoed by the European Central Bank - that there is no need for interest rates to drop any time soon. Yields on the 10-year German Bund tracked a sharp increase in those on U.S. Treasuries, rising as much as 10.7 basis points, before trading around 2.24%, up 10 bps on the day. This was the biggest one-day rise since early November, but Bund yields were still headed for their first weekly decline since late December, down 5 bps.

Traders scaled back bets on how many rate cuts the ECB might deliver this year after the data. This process was already underway in January, which sent Bund yields to their largest monthly rise in five months. "Today’s strong jobs report indicates that demand in the labour market is higher than expected. Up until recently, this may have set alarm bells ringing in the market. Cooler employment figures would imply lower inflationary pressures, potentially paving the way for rate cuts," Richard Flynn, managing director at Charles Schwab UK said.

"It is becoming increasingly clear that markets and the economy are coping well with the high rate environment, so investors are perhaps feeling that the need for monetary policy to ease is less urgent," he said. The ECB euro-short-term rate forwards last priced in around 130 basis points (bps) of rate cuts by year-end , from 140 bps earlier the day and down from around 175 basis points at the end of last year.

NO RUSH TO CUT Euro zone inflation is easing, but price pressures in the services sector are proving to be sticky, reinforcing the ECB's message to markets that it is in no rush to cut rates.

"Taking a step back and looking at EZ rates, we see more room for some pricing out of ECB rate cuts at the front meeting dates – in line with the view of Rabo’s ECB watcher that the central bank will be slower to cut than is priced as it wants to see more evidence that wage inflation is slowing," Rabobank strategists said in a note. That said, with disinflation in the euro area underway and with government bond supply set to fall in the coming weeks after the seasonal peak in January, the risk of a big drop in bond prices in the coming weeks is fading, analysts said.

Concerns about the health of U.S. regional banks resurfaced this week, helping put a floor under the bond market, after New York Community Bancorp reported increased stress in its commercial real estate portfolio, renewing fears over the health of similar lenders. At the Federal Reserve's policy meeting this week, Chair Jerome Powell suggested the central bank would only cut rates with more evidence that inflation was moving towards the 2% target, while the Bank of England sounded similarly cautious on rate cuts.

"What's clear is that all three (Fed, ECB and Bank of England) are reluctant to jump headlong into rate cuts too soon," said Barnaby Martin, credit strategist at BofA. Martin added that BofA economists looked for both the Fed and the ECB to deliver first cuts in June this year, with the BoE starting in August.

Italy's 10-year government bond yield - the benchmark for the euro area's periphery - rose 9.1 bps to 3.818%, leaving the premium over German debt at 156.3 bps. (Editing by Kylie MacLellan, Angus MacSwan, Susan Fenton and Christina Fincher) ;))