* German debt prices stable after steep selloff on Friday
* ECB loan repayments set to drive short-term yields higher
* Rise seen gradual as demand for safe havens persists
By William James
LONDON, Jan 28 German yields were steady on
Monday but looked set to creep higher over the medium term as
banks repay emergency loans from the European Central Bank early
and drive up money market rates.
The ECB announced on Friday that 137 billion euros of
three-year banking sector loans would be repaid early.
That amount exceeded expectations and was taken as a sign
that areas of the banking system were recovering and that money
market rates would rise. It dented safe-haven demand for
long-term German debt and caused a selloff in short-dated bonds.
The move slowed on Monday with Bund futures
trimming an early fall to trade 13 ticks lower at 142.37 while
two-year German yields were half a basis point
higher at 0.264 percent after an 8 basis point rise on Friday.
Traders said the slowdown in the selloff in thin early trade
was natural given the large scale of Friday's moves, with some
cautious investors attracted back into the market at cheapened
Longer-term, though, the prospect of excess cash draining
from the system was due to keep upward pressure on German bond
yields, with banks now having the opportunity to repay cash on a
In theory, the less surplus cash in the system, the more
banks have to compete to secure funds, driving short-term rates
higher, generating a knock-on effect into bond markets.
"We will continue to see a selloff in the market. This
should be driven from the front end due to the fact that we see
liquidity moving away from the market and pushing two-year
yields higher," said ING rate strategist Alessandro Giansanti.
He said two-year yields could rise as high as 0.4 percent as
market conditions normalise over the coming months, with the
impact on the longer-end of the curve smaller at around 10 basis
points. Ten-year yields were last at 1.59 percent.
Focus will now turn to weekly repayments to see if banks
continue returning the cash and particularly on Feb. 27, which
for the first time will include repayments from the second of
two long-term borrowing operations held in December 2011 and
After Friday's initial adjustment, moves were expected to be
much slower over coming sessions, with plenty in the market who
believe the risks remaining in the euro zone still warrant
investment in safe haven assets.
"I wouldn't fight this trend for now but my feeling is that
the market is over-reacting a little," said Elwin de Groot,
strategist at Rabobank in Utrecht.
"There's still a lot of uncertainty regarding the economic
recovery in Europe... and there's some structural problems that
don't solve too easily. We're still not in a situation where
investors are switching out of the Bund safe-haven."
Later, Italy will kick off a busy week of new debt issuance
with a sale of zero-coupon and inflation-linked bonds. Both were
expected to find solid demand, in line with investors' improving
appetite for peripheral debt so far this year.