Euro zone yields edge down, US inflation data and ECB meeting in focus

Traders will also focus on the European Central Bank, which is widely expected to keep rates unchanged at its policy meeting on Thursday, looking for any hints about the speed of future rate cuts after an expected first move in June. Germany's 10-year government bond yield, the euro area's benchmark, was down 0.5 basis points (bps) at 2.36% after reaching a three-week high of 2.457% on Monday.

Euro zone government bond yields edged down on Wednesday ahead of U.S. inflation data due later in the session, which could shape the Federal Reserve policy path and affect financial conditions across the bloc. Traders will also focus on the European Central Bank, which is widely expected to keep rates unchanged at its policy meeting on Thursday, looking for any hints about the speed of future rate cuts after an expected first move in June.

Germany's 10-year government bond yield, the euro area's benchmark, was down 0.5 basis points (bps) at 2.36% after reaching a three-week high of 2.457% on Monday. "The market is likely to read an upside March surprise as greatly reducing the probability the Fed will have enough confidence in the inflation outlook to cut by June, said Meghan Swiber, rates strategist at BofA.

"On the other hand, a 0.2% core print that our US Economics team expects would encourage market pricing for a full 25 bps cut by June," she added. U.S. Treasuries and expectations for the policy path in the U.S. remained in the driver's seat of the European government bond market in a data-light week in the euro zone.

"Forthcoming (U.S.) data may not carry as much significance as the headlines might imply," said Julien Lafargue, chief market strategist at Barclays Private Bank, after recalling that there are two further consumer price index (CPI) announcements and two Personal Consumption Price Index (PCE) disclosures before the Fed meeting on June 12. Atlanta Fed President Raphael Bostic reiterated his position at the hawkish end of the spectrum late on Tuesday by saying the Fed may not cut interest rates at all this year.

Analysts said a Fed hawkish shift would affect the ECB policy path although most of them argued that the ECB would cut rates in June no matter what the expectations for the Fed are. Money markets are currently pricing in 87 bps of ECB rate cuts in 2024 after hitting 81 bps the day before, from 95 bps at the end of March.

"From a trading perspective, we think that any confirmation from (ECB president Christine) Lagarde that a June cut is on the way is likely to drive an increase in the pricing of total rate cuts in 2024," said Rabobank in a research note. Markets also price in a 97% chance of a first move in June from fully pricing it in early April.

Italy's 10-year yield, the benchmark for the euro zone periphery, was down 1.5 bps at 3.70%. The spread between Italian and German 10-year yields – a gauge of risk premium investors ask to hold bonds of the euro area's most indebted countries – tightened to 132 bps. It reached 144.5 bps early this month, its highest level since early March after hitting 115.4 in mid-March, its lowest in over 24 months.