Eurozone bond markets calm ahead of possible ECB storm

London

EUROZONE bond markets were bracing on Thursday for the European Central Bank (ECB) to announce fresh stimulus measures, but uncertainty reigned over the bank's precise moves.

Government bond yields in the bloc, largely steady in early trade, have risen from record lows reached just a week ago on growing doubts that the ECB will begin a fresh round of asset purchases, known as quantitative easing (QE).

A cut in the ECB's minus 0.4 per cent deposit rate - already a record low - is widely anticipated. Policymakers are expected to debate a 10- or 20-basis-point reduction.

"Whether the ECB cuts rates by 10 or 20 bps is neither here or there," said Chris Scicluna, head of economic research at Daiwa Capital Markets.

"The big question is whether they restart QE, and if they don't, we will see a further sell off in bonds, especially longer-dated ones," he said, adding that Italian bonds could also suffer.

Daiwa expects the ECB to announce asset purchases worth 30 billion euros (S$45 billion) a month for nine months.

Expectations for stimulus are high, so the risk for the ECB is that it disappoints markets and its action pushes up borrowing costs, rather than lowers them.

Even after the recent selloff, eurozone bond yields remain deeply negative, which itself limits the impact of rate cuts.

"Given the depth of negative rates in Europe, you wonder how moving them more negative would help," said Mark Heppenstall, CIO at Penn Mutual Asset Management.

On Thursday, Germany's 10-year bond yield was flat on the day at -0.57 per cent. Even signs of a thaw in US-China trade tensions failed to shake the safe-haven bond market before the ECB meets.

Bund yields are about 17 bps above early September's record lows, but still down 80 bps this year.

Central bank chiefs from Germany, France, the Netherlands and Austria have all expressed scepticism about the need for fresh QE in recent weeks. That has weighed on long-dated bonds in particular, and helped nudge 30-year German yields back towards positive territory.

"If you saw an absence of a QE announcement or significant dilution, I would expect that to weigh on yields in the longer end," said Richard McGuire, head of rates strategy at Rabobank.

"But it is difficult to ascertain how much of this is priced in as there are other factors weighing on Bund yields and demand for safe havens, geopolitical risks around the trade war and Brexit." REUTERS