Year's lows in sight for German 2-year yields after smooth debt sale
* German new two-year bond finds strong demand at auction
* Expectations of more ECB policy easing anchor yields
* Emerging market woes increase allure of safe-haven assets
LONDON, Feb 12 (Reuters) - German two-year yields held near 2014 lows on Wednesday as a sale of new bonds offering wafer-thin returns met solid demand from investors who expect the European Central Bank to ease monetary policy further.
Short-dated debt is usually more sensitive than longer-dated bonds to shifts in policy and demand for the paper is a significant indicator of market expectations of the central bank outlook.
Germany sold just over 4 billion euros ($5.47 billion) worth of two-year Schatz notes, receiving bids for about 8.8 billion euros, higher than the 7.9 billion seen at a previous sale and a 2013 average of 7.8 billion.
The result looked particularly impressive given that the return on offer was a meagre 0.11 percent, analysts said.
"Schatz auctions tend to go well but ...this one was especially good," said Mathias van der Jeugt, rate strategist at KBC in Brussels. "If you believe what (ECB President Mario) Draghi says, that the ECB (easing) bias continues, then it makes sense to bid at the auction."
The ECB kept interest rates unchanged at its February meeting, but left the door open to further policy easing in coming months as inflation unexpectedly slowed to 0.7 percent in January, compared with a target of nearly 2 percent.
Speaking to Reuters as part of a series of interviews with top policymakers across the euro zone, ECB Executive Board member Benoit Coeure said cutting the rate the ECB pays banks for overnight deposits to negative was "a very possible option".
Two-year Schatz yields were last down 0.3 basis points at 0.105 percent. Yields stand slightly above a 2014 low of 0.065 percent hit at the end of January right after the inflation data, but they are less than half where they ended last year.
Schatz yields are below one-week and one-month money market rates, for instance - an unusual yield curve inversion which some analysts say indicates expectations of further ECB easing are embedded in market prices.
"If you look at the shape of the curve, it can mean two things: markets expect the ECB to add more liquidity to the banking system or they expect another...rate cut," said Jussi Hiljanen, chief fixed income strategist at SEB in Stockholm.
But Ralf Umlauf, an analyst at Helaba Landesbank Hessen-Thueringen, doubted short-end rates could be read that way.
"In the wake of the financial crisis, the rules have changed. Those who trade in money markets are different to those who trade the Schatz and I think the safe-haven status of German bonds is still depressing yields," he said.
Umlauf said recent flows into top-rated assets followed tensions in emerging markets, where on Tuesday the Kazakh central bank devalued the tenge currency and the Nigerian naira hit two-year lows against the dollar.
At the height of the euro zone crisis in mid-2012 when Spain was widely expected to request a bailout and concerns about Greece leaving the currency union reached their zenith, two-year German yields were negative.
Investors effectively paid Germany to keep their money for two years, suggesting they were more interested in getting most of their money back than in any return on it.
Analysts say another major shock would be required to push two-year yields deep into negative territory.
Citi strategists see yields hitting zero in coming quarters, "based on ... (the) expectation that the ECB will cut the refi rate to zero by mid-2014".