October 25, 2019 / 11:00 AM / 21 days ago

Euro zone yields rise as traders wait for Brexit resolution

LONDON (Reuters) - Euro zone yields rose on Friday as business sentiment data out of Germany provided some economic optimism, while investors waited to see if political uncertainty in Britain would end with a Brexit deal being approved.

FILE PHOTO: A trader works as a screen shows market data behind him at CMC markets in London, Britain, December 11, 2018. REUTERS/Simon Dawson/File Photo

German business morale held steady in October and Europe’s largest economy should expand slightly in the fourth quarter after contracting earlier in the year, the Ifo economic institute said on Friday.

The data followed preliminary readings of Purchasing Managers’ Index (PMI) surveys on Thursday, which reaffirmed that the euro zone economy is struggling, although economists said there was some evidence the situation is at least not worsening.

Most 10-year bond yields were up 3 basis points on the day DE10YT=RR FR10YT=RR NL10YT=RR, with Germany’s 10-year benchmark yield at -0.37%.

Friday’s data is “not as important as the broad context of the PMIs are in terms of the market’s focus,” said Mizuho rates strategist Peter McCallum, not seeing the day’s market moves as driven by any change in the economic outlook.

He also said that there was a lot of uncertainty with U.S.-China negotiations taking place on Friday and little clarity over Britain’s exit from the European Union.

“We don’t know what’s happening in terms of the UK developments, both on the (Brexit) extension or whether (Prime Minister Boris Johnson’s) motion to press forward with an election will be passed on Monday,” he added.

U.S. and Chinese trade officials will discuss plans for China to buy more U.S. farm products, while Beijing will request the cancellation of some planned and existing U.S. tariffs on Chinese imports, according to people briefed on the talks.

Meanwhile, the European Union agreed on Friday to London’s request for a Brexit deadline extension but set no new departure date, giving Britain’s divided parliament time to decide whether to back Johnson’s call for a snap election.

Euro zone bond markets have largely shrugged off the election call with Natixis strategist Cyril Regnat saying it had raised hopes of another vote in the UK parliament on the Brexit deal.

“As long as we don’t have any official agreement between the EU and UK, even if it’s probably a very small risk, there is still a risk we end up with a no-deal,” he added.

Later on Friday, S&P is scheduled to publish ratings reviews of Italy and Greece.

Analysts are watching S&P’s Italy rating closely given its negative outlook, as a downgrade would put the country’s average rating from the three major rating agencies - Moody’s and Fitch alongside S&P - one notch above junk.

UniCredit analysts expect S&P to upgrade Greece by one notch to BB- but to leave Italy unchanged at BBB with a negative outlook.

“In the short term, Italy’s economic outlook remains highly uncertain, and activity is likely to stagnate this year and to recover modestly in 2020,” they said in a client note.

Although both countries’ sovereign bonds have rallied significantly this year, Greece has outperformed strongly. The gap between Italian and Greek 10-year yields squeezed to just 14 bps, compared to 164 bps in January.

ING rates strategist Benjamin Schroeder said that based on a plot of euro zone bond yields against average credit ratings, Greece was trading like an investment-grade issuer while you could argue that Italy was not.

Greek-Italian Spread - here

Italian yields rose 4 bps on Friday, with the 10-year yield at 1.05% IT10YT=RR. The sovereign sold 3 billion euros of two-year bonds in an auction.

Reporting by Yoruk Bahceli and Tommy Reggiori Wilkes; Editing by Larry King and Frances Kerry and Kirsten Donovan

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