August 20, 2014 / 7:35 AM / in 3 years

German two-year yields negative before debt auction

LONDON, Aug 20 (Reuters) - German two-year debt yields held close to 15-month lows below zero on Wednesday with record low money market rates and bets for further ECB easing underpinning demand before an auction of up to 5 billion euros of a similar-dated bond.

Data last week showing the euro zone economy stagnating in the second quarter even before the sanctions imposed on and by Russia over the conflict in Ukraine cemented expectations of ultra-low European Central Bank interest rates for a long time.

It has also rekindled expectations the ECB could eventually print money to buy debt. A Reuters poll this week showed money market traders saw a 50 percent probability of a bond-buying programme in the next 12 months, up from a one-in-three chance in last week’s survey.

German bond yields, the benchmark for euro zone borrowing costs, trade around zero for maturities of up to four years.

“This is a combination of expectations of very low rates for a very long period of time but also a reflection that the market has raised the odds of the ECB being drawn into taking more serious action,” said Elwin de Groot, a senior market economist at Rabobank in Utrecht.

Two-year bonds yield minus 0.006 percent, meaning buyers will get slightly less money than they invested when the bond comes due.

Some banks may prefer that rather than being charged 10 basis points for keeping the money in the ECB’s deposit facility - a result of the central bank’s unprecedented deposit rate cut into negative territory in June.

Two-year yields in France, Belgium, Ireland, the Netherlands, Austria and Finland trade between 0.03 and 0.06 percent. The highest-yielding two-year euro zone bond is junk-rated Portugal’s at 0.84 percent.

The overnight bank-to-bank Eonia lending rate fell to a new record low of 0.005 percent, as the euro zone banking system enjoys plenty of spare cash - now at around 134 billion euros - and is due to receive up to 1 trillion euros of cheap ECB loans (TLTROs) from September.

“The prospect of increased liquidity post TLTROs ... seems likely to support front-end yields at these very low levels for some time to come and could be a possible source of demand at the auction,” Barclays strategists said in a note.

Germany’s auction results are due around 1130 GMT. (Reporting by Marius Zaharia; Editing by Andrew Heavens)

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