* Ten-year yield below 0.1 pct for 1st time since late 2016
* Analysts do not rule out move to zero
* Short dated Italian bond yields jump as much as 15 bps
* Italy 10-year yields set for biggest weekly rise since Oct
* Euro zone periphery govt bond yields tmsnrt.rs/2ii2Bqr (Updates pricing, adds detail on Italian bond sell-off)
By Dhara Ranasinghe
LONDON, Feb 8 (Reuters) - Germany’s 10-year government bond yield dropped below 0.1 percent for the first time since late 2016 on Friday, taking a step deeper into territory that reflects dire concern in bond markets about economic conditions.
The 10-year Bund yield fell as low as 0.077 percent , its lowest level since October 2016, dragging French and Dutch yields to their lowest levels in more than two years .
Those falls reflect a significant adjustment in investor expectations for future growth and central bank policy, sparked on Thursday by sharp cuts to the European Commission’s economic growth forecasts for the euro area.
“I think going sub-zero in the 10-year Bund yield would require a pricing in of rate cuts for the ECB (European Central bank) and the threshold for that is still sizeable,” said Nordea chief analyst Jan von Gerich.
“But it does show how the pricing of the economic outlook has deteriorated significantly and shows that the ECB won’t be able to hike rates anytime soon.”
Concern that economic conditions may be worse than anticipated a few months ago has driven yields on safer bonds down. For euro zone benchmark issuer Germany, that means bonds with maturities out to nine years now yield below zero percent.
Three months ago, German bonds out to six years had sub-zero yields.
“We don’t think a move to zero percent (on the 10-year Bund) is likely but it could happen,” said Ciaran O’Hagan, rates strategist at Societe Generale, referring to Bund yields.
Deutsche Bank strategist Jim Reid noted that the last time German bond yields were this low, the ECB’s hefty bond-buying stimulus was in full flow.
“The last time (French) OAT yields were lower was November 2016 and Dutch yields were last lower also in October 2016, so this isn’t just a Bund story,” he said.
This week has seen sharp falls in yields across most major bond markets.
A key long-term gauge of market euro zone rate expectations meanwhile fell further on Friday to just above 1.45 percent, reflecting an increasingly subdued inflation outlook.
The five-year, five-year breakeven forward, which measures expected inflation over a five-year period that begins five years from today, is down 13 bps in the past month to its lowest level in over two years.
It is tracked closely by the ECB, which targets inflation at close to 2 percent.
One euro zone outlier is Italy, whose bond market has taken a beating on concern that a weakening economy will exacerbate the country’s budget deficit.
In addition, an eight billion euro 30-year syndication earlier in the week prompted investors to sell short-dated Italian bonds with the trade gathering momentum into Friday’s close.
Italian two and five-year government bond yields jumped as much as 15 basis points and were last trading at 0.69 percent and 2.04 percent respectively, with both posting their biggest weekly rise this year.,.
Italian 10 year government bond yields are up 25 bps this week — set for their biggest one-week jump since October, while the Italy/Germany 10-year bond yield gap was approaching 300 basis points for the first time since December at 293 basis points.
Reporting by Dhara Ranasinghe Editing by Toby Chopra and John Stonestreet