(Reuters) – Euro zone bonds edged higher on Friday, extending this week’s rise after data showing a surprisingly sharp slowdown in euro zone inflation bolstered bets the European Central Bank could ease monetary policy further.
The October inflation numbers, which were way below the ECB’s target of just below 2 percent, offset the impact of forecast-beating U.S. data and a Federal Reserve statement on Wednesday that was perceived to be less dovish than anticipated.
Bund futures rose to their highest level in two months after the report which with a strong euro are seen putting pressure on the ECB to at least signal a rate cut or new liquidity injections at its meeting next week.
But many in the market expect the ECB to hold fire until December when it will have updated medium-term inflation and growth forecasts.
“The inflation reading yesterday supports the maintenance of low rates, steeper (bond yield) curves … which will all put pressure on the ECB,” said Padhraic Garvey, head of investment grade debt strategy at ING in Amsterdam.
Spanish 10-year and Italian 10-year yields were down 2 basis points at 4.02 and 4.11 percent respectively.
In core euro zone bonds, German two-year yields, the most sensitive to shifts in monetary policy expectations, were 2 basis points down at 0.11 percent, their lowest since August 1, steepening the 2- to 10-year yield curve by 3 bps to 158 bps. Bund futures were steady at 142.00, having hit a two-month peak of 142.32 on Thursday.
The market was expected to stay supported going into the ECB meeting next Thursday, though the bank has not sent any official signals of imminent easing since its last meeting last month. It also remains unclear whether it would choose to cut rates or prefer to give banks another dose of cheap long-term loans.
Societe Generale strategists say they expect the central bank to cut interest rates to a record low 0.25 percent from the current 0.50 percent in December.
“From the ECB perspective, a key rate cut would weigh on the euro/dollar near term and help anchor inflation expectations that otherwise could drop sharply,” they said in a note.
“However, it is doubtful that a rate cut alone would have a lasting effect on the euro exchange rate and an LTRO (program of cheap loans) would probably have a bigger effect.”
