German yields rise as Fed's Bullard adds to US taper uncertainty

Fri Sep 20, 2013 12:25pm EDT

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By Ana Nicolaci da Costa and Marius Zaharia

LONDON, Sept 20 (Reuters) - German bond yields rose on Friday after a Federal Reserve official said the central bank could still curb stimulus in October, making investors increasingly uncertain about the timing of any tapering.

St. Louis Fed President James Bullard's comments gave investors a window of opportunity to cash in on hefty gains made in the previous session after the Fed surprised markets by keeping its asset-purchasing program intact.

Against this backdrop, analysts expected trade to remain choppy as investors try to preempt the Fed's future action based on the incoming data. In a sign of investor uncertainty, German bonds fell but fellow safe-haven U.S. Treasuries were largely unchanged on the day.

"Tapering is back on the agenda," one trader said. "I think people generally don't know what to do now. Central banks ... change their message everyday and therefore how can you justify having a position?"

Ten-year German yields were 2.3 basis points higher at 1.90 percent and German Bund futures were 24 ticks lower at 138.32.

The 10-year yield spread between U.S. Treasuries and German Bunds were 2 bps narrower at 79 bps.

"At least, as far as the Treasury market is concerned, the market is now more in line with what the Fed has as a guidance...," Alessandro Tentori, global head of rates strategy at Citi said.

"Still, when it comes to the euro zone, I guess we need to wait for some data and see whether this uptick in sentiment data we've seen in the past couple of months is really confirmed by activity data."

Consumer morale in the euro zone improved to a two-year high in September, the European Commission said on Friday, with confidence in the wider European Union surpassing its long-term average for the first time since the summer of 2011.

GREECE

Greek government bonds outperformed other periphery issues, with ten-year Greek yields 19 bps lower at 10 percent benefiting from the first quarterly drop in almost four years in Greece's unemployment rate.

"Greek bonds are rallying because of a combination of things: first, the (lack of) Fed tapering; second, more good data; and only third, the absence of any nasties in the German election campaign," said Gabriel Sterne, an economist at distressed debt brokerage Exotix.

Chancellor Angela Merkel looked on track to win a third term in a weekend election in Germany but faced a battle to preserve her centre-right majority and avert a potentially divisive coalition with her arch-rivals, the centre-left Social Democrats (SPD).

Funding gaps facing Athens and the risk Portugal may not return to markets when its bailout runs out next year will be among European policy challenges for Germany's next government.

Investors did not expect the election results to have a major impact on the debt markets.

But, at the margin, they said a scenario where Merkel forms a grand coalition with the Social Democrats, seen as more open to European integration and liability-sharing than she is, would be supportive for periphery and hurtful for safe-haven Bunds.

Other periphery prices were range-bound, with Italian yields flat at 4.29 percent and Spanish yields 2 basis points lower at 4.31 percent.

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