Euro zone bond yields inch up after safe-haven rally

Euro zone government bond yields edged up ‌on ​Friday but were still set for a weekly decline, as investors took profits on the recent safe-haven rally that was sparked by growing concern about the ability of AI-related companies to deliver a return on their vast spending. Global bonds are heading for their strongest weekly performance in four months, with yields on ‌the sovereign debt of G7 economies down by an average of 7.5 basis points to 4.284%, according to LSEG data.

The shares and bonds of more indebted companies linked to the artificial intelligence build out were hit hard earlier this week, which weighed on the broader equity market and pushed investors back into bonds. Yields on German 10-year Bunds, the safe haven of choice for many investors in European assets, have fallen 5.7 bps this week ‌to around 3.428% on Friday, up 2 bps on the day, while 2-year yields were flat at 3.075%.

Government debt, which traditionally acts as a shock absorber for ructions in riskier assets, has been ‌unable to perform this function for most of this year, as the surge in energy and food prices as a result of the Middle East war has forced investors to price in the prospect of higher borrowing costs in the form of higher yields. The correlation between Bunds and the STOXX 600, for example, has turned positive — meaning yields are more likely to fall when stocks fall and vice versa — this week for the first time since early August.

This relationship reached its most negative on record in late ⁠September, according to ​LSEG data. One of the major aggravating factors for ⁠bonds has been the persistent concern among investors about the long-term finances of developed-market governments.

Yields on French bonds, which have been among the most harshly punished in the past few weeks, given the deep-rooted worry about France's ability to tackle its finances, were trading ⁠around 4.82%, up 3 bps on the day, but down 4.3 bps this week, set for their largest weekly drop since early August. The premium of French 10-year yields over Bunds , a reflection of the extra compensation investors want for ​the risk of lending to France, rather than Germany, was around 138 bps on Friday, having fallen from a 15-year high of nearly 160 bps on October 2.

MARKETS WATCHING ECB SPEAKERS In ⁠a nod to the volatility in the bond market of the past few weeks, Bundesbank President Joachim Nagel said on Friday in Bangkok the recent turmoil reflected a combination of higher inflation, resilient growth and rising capital demand from AI companies.

European Central Bank President Christine ⁠Lagarde, ​Governing Council member Boris Vujčić and ECB Executive Board member Piero Cipollone will all speak at events in Bangkok in the coming 24 hours, which analysts said could help refine expectations for the central bank's next move on interest rates. "ECB colour remains on the agenda with the IMF/World Bank annual meetings in Bangkok continuing today. Remarks by Lagarde, Vujčić and Cipollone are on the agenda today and could become intriguing for ⁠the near-term rates outlook, with the market's confidence growing for a 25bp hike in December," Hauke Siemßen, a strategist at Commerzbank, said.

Money markets show traders do not believe the ECB will raise interest rates ⁠at its meeting this month, but upped the ⁠chances of a December rate hike to 100%, from just below that level earlier in the day. At least one more hike is priced in by next April. There was little reaction to data that showed harmonised inflation in the euro zone ran at a five-year high of 3.8% in September, in line with ‌expectations in a Reuters poll of economists.

The ‌IMF said in its regular forecast for Europe it expects one more ECB rate hike this year. (Reporting ​by Amanda Cooper; Editing by Alex Richardson, Kirsten Donovan)