UPDATE 1-German Bunds set for worst week since Feb 2018 on economic boost

Safe-haven German government bonds were set for their biggest weekly selloff in nearly one-and-a-half years on Friday as signs of economic strength in the United States and parts of Europe suggested fears of a downturn may be overdone.

Data showed U.S. underlying consumer prices increased by the most in nearly 1-1/2 years in June amid solid gains in a range of goods and services, adding to strong French industrial data from earlier in the week. The latter sparked bets that the overall figure for industrial production in the eurozone, due at 0900 GMT, will exceed the current dire expectations -- based on a Reuters poll -- of a 0.2% increase over the month and a 1.6% contraction year-on-year.

"Euro area industrial production is expected to expand by 0.9% month-on-month (Bloomberg consensus of 0.2% is outdated) in May according to the country level releases we have to hand so far," RBC analysts said in a note. This would mark the best monthly expansion in euro area industrial production since January, they added, though it will still represent a significant contraction from May 2018.

German 10-year bond yields hit a 3-1/2 week high of minus 0.25% on Friday, up 1.5 bps on the day and 10 bps on the week. At this level, it is set for its biggest weekly rise since February last year.

Other eurozone bond yields were 1-2 basis points higher on the day, and French 10-year government bond yields are now back in positive territory, having dipped as low as minus 0.16% last week. Eurozone policymaker Benoit Coeure's comments on Thursday have also contributed to this shift in eurozone government bond prices said DZ Bank analyst Ando Cossor.

The ECB should take the low inflation expectations implied by eurozone bond prices with a pinch of salt as other gauges show greater confidence in the outlook, Coeure said on Thursday. "Coeure's speech yesterday indicated the ECB is ready to take action but not yet committed to changing forward guidance, deposit rate and revival of the QE program - they need more evidence to do all three," said Cossor.

A key market gauge of long-term eurozone inflation expectations, the five-year, five-year forward breakeven rate, was at 1.25% on Friday, its highest in nearly two weeks. German annual inflation accelerated to 1.5% in June, moving closer to the ECB's target, final data from the Federal Statistics Office showed on Thursday.

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