European Bond yields whipsaw amid interest rate uncertainty
European government bonds reversed course on Thursday, rising after falling sharply in the previous session, as a fragile ceasefire in the Middle East kept markets on edge.
Bond traders are grappling with unusually high levels of volatility, clouding the outlook for interest rate policies from the Bank of England and the European Central Bank.
Yield 10 years of Gilded A gauge of UK government debt rose more than 6 basis points to 4.775% on Thursday, following a 21 basis point decline the day before. 2 years Gilded The bond yield rose 7 basis points to 4.245%, after falling 25 basis points in the previous session.
German bonds followed a similar path. 10-year Bund return It rose almost 5 basis points to 2.9886% after falling nearly 17 basis points on Wednesday. Meanwhile, 2 year Bund Yields, which fell 28 basis points in the previous session, recovered 6 basis points to 2.5549%.
Bond yields and prices move in opposite directions, with one basis point equaling 0.01%.
Inflation risks are getting worse
Markets have been hit hard since February 28, when the hostilities between the United States and its allies and Iran began. Borrowing costs have increased in many European economies. It has reached multi-decade highs in recent weeks as rising oil prices raise inflationary fears and make it harder for investors to assess the future course of interest rates.
Laura Cooper, global investment strategist and head of macro credit at Nuveen, said volatility has become the “new norm” as traders try to separate the signal from the noise. “Investors can’t ignore every headline, but they also can’t trade every headline,” Cooper said.
UK 10 Year Gilts.
She added that the resumption of oil and gas shipping flows through the Strait of Hormuz will be crucial in limiting lasting economic damage, describing ongoing disruptions as “not an aberration” but an “expression” of a shifting geopolitical order.
“The developments do little to contain near-term price pressures, with the risk premium on crude oil still assured and evidence of supply chain disruptions occurring; the latter will take time to resolve,” he told CNBC via email.
“Inflation risks may limit the rally in longer-dated bonds until there is evidence of growth destruction, and we are more of a believer in steeper curves… Positioning has shortened in duration as curve steepeners and inflation protection are increasingly favored over outright rate bets.”
AJ Bell head of markets Dan Coatsworth said rate hikes remained likely, although potentially less than expected, ahead of the ceasefire announcement on Tuesday night.
“Any sign that oil prices will rise again could lead to another sell-off in the bond market,” Coatsworth told CNBC via email. “We are in a difficult situation as markets show widespread optimism that the Iran crisis is nearing an end, but it is too early to take that view.”
Brent crude oil.
Global oil prices rose again on Thursday but remain behind recent highs. International comparison Brent crude oil It rose more than 3% to $97.60 per barrel in the US. West Texas Intermediate prices rose 4.3% to $98.53.
In the long term, higher oil and gas costs are expected to impact Europe, which is a net energy importer, more than other regions.
Nicholas Brooks, ICG’s head of economic and investment research, said policymakers were now closely watching how energy costs were reflected in the broader economy through inflation expectations, wages and core price measures.
Investors are preparing for an interest rate increase
Markets are currently pricing in the Bank of England’s interest rate hike this year, reducing it to 25 basis points from 50 basis points before the ceasefire. Two interest rate hikes are expected from the ECB this year; This reflects the bank’s leeway in raising interest rates following sustained rate cuts from a mid-2024 peak.
Brooks said: “Whilst markets are still pricing in rate rises, we think it would be prudent for central banks to take a wait-and-see approach rather than reacting prematurely, given further recession in both the UK and Eurozone economies compared to the last inflation crisis in 2022.”
German 10-Year Bunds.
Matthew Amis, investment director of interest management at Aberdeen Investments, described the ceasefire as “undoubtedly good news” but warned “this is not over yet”.
Amis said European and UK government bonds now offered some value after being hit by the sharp turn in sentiment since the start of the conflict. But he added that any move lower in yields was unlikely to be smooth sailing as markets must navigate a “headline-heavy” period in the coming weeks.
“Yields may continue to fall, but markets will remain on high alert,” Amis said. “We temporarily added risk last week as we believed markets had priced in too many upsides. We are happy to keep it here; if the positive news flow continues, upsides may continue to be priced in by both the UK and EU.”
