Eurozone Bond Yields Surge as ECB Cuts Rates Amid Uncertainty

Eurozone government bond yields increased after the ECB lowered borrowing costs but did not specify future plans. Germany's 10-year yield rose 6 bps, while Italy's 10-year yield increased 7 bps. Analysts noted the ECB's cautious approach, with markets now pricing in more potential rate cuts by year's end.

Euro zone government bond yields rose on Thursday after the European Central Bank lowered borrowing costs from a record high but kept the timing of the next move under wraps. Analysts have been expectant for weeks that a rate cut this month was a done deal, but there is a lot of uncertainty about the outlook after June.

"The Governing Council will continue to follow a data-dependent and meeting-by-meeting approach to determining the appropriate level and duration of restriction," the ECB said in a statement. The central bank also upped some of its growth and inflation forecasts, predicting a somewhat later return of price growth to its 2% target.

Germany's 10-year yield, the bloc's benchmark, rose 6 basis points (bps) to 2.56%. It hit a 6-1/2 month high at 2.707% last Friday. "The statement arguably gave less guidance than might have been expected on what comes next," said Mark Wall, chief European economist at Deutsche Bank.

"In that sense, the immediate tone is a “hawkish cut”. This is not a central bank in a rush to ease policy." Markets have trimmed bets on future easing from the ECB and now price around 35 bps of rate cuts by the end of the year on top of today's move, implying one more rate cut and around a 40% chance of a third move by the end of the year.

Germany's 2-year government bond yield, which is sensitive to policy rate expectations, was up 5 bps at 3.025%. It hit 3.125% on Friday, its highest since mid-November. Italy's 10-year yield rose 7 bps to 3.878%, while the gap between Italian and German yields, a gauge of the risk premium investors seek to hold bonds of the euro area's most indebted countries, was at 131 bps.

The spread between U.S. and German 10-year yields - a gauge of expectations for monetary policy divergence between the Fed and the ECB – narrowed to 174 bps from around 177 bps before the decision. The ECB is the second major central bank to cut rates in two days after the Bank of Canada trimmed its key policy rate on Wednesday.