Euro zone bond yields dip as markets await ECB and Lagarde

Market pricing suggests investors expect both the ECB and the Fed to start cutting rates in June, with around 90 bps of cuts expected from both central banks this year. Germany's 2-year bond yield, which is sensitive to ECB rate expectations, was down 4 bps on Thursday at 2.835%.

Euro zone bond yields fell slightly on Thursday as investors waited for the European Central Bank meeting later in the day, when investors will tune in to President Christine Lagarde for hints about when interest rates might start to fall. Germany's 10-year bond yield, the benchmark borrowing cost for the euro zone, was last down 3 basis points (bps) from Wednesday at 2.303%. Yields move inversely to prices.

Bond yields have risen in 2024 - with the German 10-year yield up around 30 bps - as investors have reined in their expectations for rapid and steep interest rate cuts, with economic data coming in stronger than expected and central bankers sticking to a tough line on inflation. The ECB will set rates at 1315 GMT (2.15 p.m. CET) and Lagarde will hold a press conference at 1345 GMT.

Economists and investors say the ECB is certain to leave rates at a record high of 4% but they will scrutinise Lagarde's comments and new economic projections, which are expected to downgrade inflation and growth forecasts for this year. "The ECB are currently in a holding pattern, awaiting further information on inflation before commencing their soft landing," said Jason Davis, global rates portfolio manager at JPMorgan Asset Management.

"We expect the ECB to reduce their inflation forecasts given the better than expected progress towards target." Italy's 10-year bond yield was 3 bps lower at 3.632% after a three-day slide helped take the closely watched spread over Germany's 10-year yield to its lowest since early 2022 at 130 bps. That gap stood at 131 bps on Thursday.

Yields cooled on Wednesday as investors took comfort from U.S. Federal Reserve chair Jerome Powell's balanced comments on inflation and interest rates. Powell said he still expected rate cuts in the coming months if inflation continued to drop. Market pricing suggests investors expect both the ECB and the Fed to start cutting rates in June, with around 90 bps of cuts expected from both central banks this year.

Germany's 2-year bond yield, which is sensitive to ECB rate expectations, was down 4 bps on Thursday at 2.835%.