* Broad bond rally reverses “Trumpflation” sell-off
* German/U.S. yield gap widest in months
* Portuguese yields lowest since Dec 2015
* Spain in focus as illegal Catalonia referendum looms
* Euro zone periphery govt bond yields tmsnrt.rs/2ii2Bqr (Adds graphic, updates prices)
By Abhinav Ramnarayan and John Geddie
LONDON, Sept 29 (Reuters) - Investors headed back into euro zone bonds on Friday after data showed inflation in the currency bloc was lower than expected in September. Yields, which move inversely to prices, fell broadly to reverse a sharp sell-off on Thursday that was prompted by U.S. President Donald Trump’s tax cut plan.
Expectations of a fiscal boost in the United States were countered by underwhelming price growth in the euro area, which at 1.5 percent year-on-year is still well below the European Central Bank’s near 2 percent target.
This may complicate the ECB’s plans to reduce monetary stimulus, a move likely to be announced at its next meeting on Oct. 26.
“Investors are waiting for more clarity on the policy front from the ECB and there is some uncertainty on the politics front as well,” Credit Agricole strategist Orlando Green said, referring to Germany’s ongoing effort to form a government after weekend elections.
German government bond yields fell as much as 3 basis points on Friday to 0.45 percent, hitting a two-day low after the inflation data and well off Thursday’s high of 0.518 percent.
The gap between U.S. and German 10-year borrowing costs stretched to its widest since early July showing that U.S. growth and inflation expectations are more positive than for the euro zone for the time being.
Among other eye-catching moves after the inflation data, Portuguese 10-year bond yields fell to their lowest since December 2015, down as much as 4 bps at 2.368 percent .
Italian equivalents hit a one-week low of 2.146 percent .
Investors will be keeping a close eye on developments in the Spanish region of Catalonia, where an illegal independence referendum vote is scheduled to go ahead this Sunday.
“At the moment, there is no significant market impact from the tensions, but if the Catalan police and the Spanish police are standing there in front of the polling stations and discussing whether to block the station or not, this will be an issue,” said Sebastian Fellechner of DZ Bank.
While Spanish government bonds have been relatively unaffected by the tensions, Catalonia’s own bonds showed signs of coming under some pressure leading up to the vote.
The gap between Catalonia’s outstanding bonds maturing in February 2020 and the Spanish equivalent was close to its widest level all year, at 300 basis points.
At the very least, the developments have taken attention off a scheduled ratings review for Spain from S&P Global.
“We think an upgrade at this stage looks premature with the Catalans still pushing for the independence referendum on Sunday despite the central government’s heavy-handed intervention,” analysts at ING said in a note.
For Reuters Live Markets blog on European and UK stock markets see reuters://realtime/verb=Open/url=http://emea1.apps.cp.extranet.thomsonreuters.biz/cms/?pageId=livemarkets
Reporting by Abhinav Ramnarayan and John Geddie; Editing by Jeremy Gaunt