February 18, 2016 / 12:06 PM / 3 years ago

Peripheral bond yields tumble as risk appetite returns

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By Dhara Ranasinghe

LONDON, Feb 18 (Reuters) - Southern European bonds led declines in yields across the euro zone on Thursday, reflecting growing risk appetite after weeks of turbulence in global markets.

But top-rated German Bund yields, which have moved in the opposite direction to peripheral bonds in recent weeks, also fell in a sign that expectations of further ECB monetary easing next month remain a key driver.

Gains by equities and oil prices whetted investor appetite for riskier assets. That spilled over into the euro zone’s peripheral bond markets, which were caught up in concern about global growth and the health of world banks last week.

Yields on Portugal’s 10-year bond fell 22 basis points to 3.20 percent, down almost 120 basis points from a peak hit last week.

Spanish 10-year yields fell 6 basis points to 1.70 percent , while Italian 10-year bond yields fell to their lowest levels in more than a week at 1.55 percent.

“The fact that we have a global improvement in risk appetite is supporting peripheral debt,” said Cyril Regnat, fixed income strategist at Natixis.

After being battered by concerns about the economic growth outlook and how negative interest rates will hurt world banks, financial markets appear to be in calmer waters this week.

The iTRAXX crossover index, a measure of junk-rated European corporate bond spreads, has narrowed to about 428 basis points. That is down from 492 basis points hit last week, which was the highest since June 2013.

The European banking index meanwhile is up about 13 percent from lows hit last week.

BUNDS FIRM TOO

German 10-year bond yields fell 1 basis point to 0.26 percent.

While safe-haven bonds typically sell off on days when risk appetite is strong, analysts said expectations for ECB easing next month continued to underpin bonds generally.

“Last week there was a negative correlation between risky assets and Bunds, so a sell-off in risk assets - equities, oil and peripheral assets - led to a big drop in Bund yields and today peripheral and Bund yields are lower,” said Commerzbank strategist Rainer Gunterman.

“That has to do with an underlying expectation for ECB easing,” he said.

Financial markets fully price in a 10 basis point cut in the ECB’s deposit rate to minus 0.40 percent in March, followed by a further 10 basis point cut later in the year.

Minutes from the ECB’s January meeting are due out later on Thursday and could shed light on what to expect next month.

On Wednesday, minutes of the January Federal Open Market Committee (FOMC) meeting showed that U.S. policymakers were worried about tightening global financial conditions hitting the U.S. economy and considered changing their planned path of interest rate hikes in 2016.

Elsewhere, France sold about 7.5 billion euros worth of bonds maturing in 2012 and 2020, while Spain sold 3.7 billion euros of three, five and 10-year bonds. (Reporting by Dhara Ranasinghe, editing by)

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