Euro zone bonds track Treasuries sell-off, Italy spread hits one-month high

By Tuesday, the 10-year yield was up 3 basis points at 4.361% after jumping 13.5 bps the day before. On Tuesday, data showed inflation fell in six economically important German states, while national figures showed domestic price pressures eased to their lowest in nearly three years.

Euro zone government bond yields rose on Tuesday, as investors balanced a jump in U.S. Treasury yields the day before against German data confirming that the disinflation process was underway in Europe. U.S. Treasury yields posted their biggest one-day rise since mid-February on Monday, after economic data raised doubts whether the Federal Reserve could deliver three rate cuts this year. By Tuesday, the 10-year yield was up 3 basis points at 4.361% after jumping 13.5 bps the day before.

On Tuesday, data showed inflation fell in six economically important German states, while national figures showed domestic price pressures eased to their lowest in nearly three years. Money markets raised their bets on future European Central Bank rate cuts, pricing in 92 bps in 2024 from around 90 bps before the data.

"Overall, we now expect euro zone headline inflation to come in around 2.3%, which is below the consensus forecast of 2.6%," said Franziska Palmas, senior Europe economist at Capital Economics, who sees the core rate declining to 2.8%. Germany's 10-year bond yield, the benchmark for the bloc, rose 11.3 basis points to 2.405%, its highest level since March 21. Two-year debt, which is much more sensitive to shifts in expectations for interest rates, was last one bp higher at 2.83%.

Euro zone consumers lowered their near-term inflation expectations in February but projections further out remained unchanged, a new survey by the ECB showed. "While the Fed is likely to seek further reassurance that inflation is heading sustainably back to its 2% annual target before embarking on rate cuts, our base case remains that easing should start at the June policy meeting with 75 basis points of cuts for the year," said Mark Haefele, chief investment officer at UBS Global Wealth Management.

Echoing the steep increase in German yields, Italy's 10-year bond yield rose 12 bps to 3.79%. This brought the closely watched premium over 10-year German yields to 136.8 bps . It hit 142 bps earlier in the session, its highest since March 4. "Last week saw the potential of a perfect storm for euro area government bonds with a further increase in Italy's tax credits year-to-date on construction 'superbonus'," Citi analysts said in a note to clients.

"This would make a downward trajectory for Italy's debt/GDP ratio even more unlikely, adding to fiscal concerns already emanating from France," it added. The so-called superbonus - a package of incentives for home improvements - was originally expected to cost 35 billion euros ($37.9 billion) over 15 years. The Treasury recently acknowledged, however, it had already forked out almost 150 billion euros during the first four years alone.

Data on Friday showed French consumer prices rose by a smaller-than-expected 2.4% year-on-year in March, while Italian EU-harmonised consumer prices (HICP) came in below the median forecast of a Reuters survey.

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