Euro zone bond yields edge higher amid ECB hawkish remarks

The ECB's Peter Kazimir said on Monday policymakers would need until March to be sure they can rule out further rate hikes, after Bostjan Vasle and Robert Holzmann suggested an additional increase was possible. Germany's 10-year bond yield, the benchmark for the euro area, rose 5 basis points (bps) to 2.72%, while other 10-year yields across the bloc were up by a similar amount.

Euro zone government bond yields rose on Monday, as caution set in ahead of this week's Federal Reserve policy meeting and amid hawkish remarks by European Central Bank officials. The ECB's Peter Kazimir said on Monday policymakers would need until March to be sure they can rule out further rate hikes, after Bostjan Vasle and Robert Holzmann suggested an additional increase was possible.

Germany's 10-year bond yield, the benchmark for the euro area, rose 5 basis points (bps) to 2.72%, while other 10-year yields across the bloc were up by a similar amount. The Fed will leave its benchmark interest rate unchanged and probably wait until the April-June period of 2024 or later before cutting it, according to economists in a Reuters poll.

Some economists however, expect the Fed will raise rates at least another quarter-point, spelling more volatility across financial markets. This week will be packed with central bank policy meetings, including the Bank of England (BoE), Sweden's Riksbank, the Norges Bank and the Swiss National Bank (SNB), due on Thursday, while the Bank of Japan meets on Friday.

Germany's policy-sensitive 2-year government bond yield was 6 bps higher at 3.26% after briefly hitting 3.264%, its highest level since July 31. Money markets price a slight chance of an additional ECB rate hike by the year-end, currently at around 25% after briefly rising to above 30% earlier in the session.

ECB policymakers Martins Kazaks and Madis Mueller reiterated they saw a solid case for quickening the ECB's balance sheet roll-off. ECB hawks have called for ending reinvestments from bonds bought under the 1.7 trillion euro ($1.82 trillion) Pandemic Emergency Purchase Programme (PEPP) earlier than the current end-2024 deadline.

Such a move might hurt peripheral bond prices as the ECB can flexibly use PEPP reinvestments to avoid excessive yield spread widening, which might hamper the monetary policy transmission. Italy's 10-year government bond yield, the benchmark for the euro area periphery, rose 6 bps to 4.52%.

The spread between Italian and German 10-year government bond yields – a gauge of market sentiment towards the euro zone's most indebted countries – widened out to just over 180 bps for the first time since June. Greek bonds showed a muted reaction to the two-notch upgrade by global rating agency Moody's as they already priced a significant improvement of the risk premium of Greek debt.

The 10-year bond yield rose 5 bps at 4.16%. "Greece government bond yields continue to look attractive to us, especially given the spread to Portuguese government bonds is largely unchanged since before the election," Citi analysts said in a note to clients.