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UPDATE 2-Safe-haven dash sends German bond yields to all-time low

Virginia Furness

* Euro zone periphery govt bond yields (Adds chart, updates prices)

LONDON, June 3 (Reuters) - German 10-year government bond yields fell to record lows on Monday, driven down by a dash for safe-haven assets that also sent two-year U.S. Treasuries into their biggest yield drop since the global financial crisis.

U.S. President Donald Trump's threats to slap punitive tariffs on Mexico unless the latter halted immigration across the border marked an escalation in the trade war. He also removed preferential trade treatment for India.

"The trade war is taking another leg higher which is negative in terms of global growth, demand, confidence and inflation and is also injecting a healthy dose of risk-off which is all conspiring to push U.S. yields lower," said Richard McGuire, head of rates strategy at Rabobank.

German benchmark government bond yields extended last week's falls to hit an all-time low of -0.219% on Monday, tracking the sharp fall in U.S. Treasuries. The gap between two- and ten-year yields is at the tightest since August 2016, a sign of worsening economic sentiment .

Goldman Sachs analysts said in a note on Friday their downside risk scenario for 10-year bund yields is -50 basis points.

Two-year Treasuries fell as much as 23 basis points in the last two trading sessions, their biggest two-day move down since October 2008. Ten-year Treasuries were also down, by six basis points at 2.07%, their lowest since September 2017., .

"Threats against Mexico have made it very clear (Trump) willing to court or engender economic damage and what he is doing in Mexico is with an eye on next years elections," McGuire added.

Europe's domestic politics also kept downward pressure on German yields after Andrea Nahles, leader of Germany's Social Democrats (SPD), announced she would resign after her party's lackluster performance in European elections.

This throws doubt on the durability of Chancellor Angela Merkel's ruling coalition with the SPD.

Berenberg chief economist Holger Schmieding assigned a 40% probability that this would mark the end of Angela Merkel's long tenure as chancellor.

Dutch bonds, also AAA-rated, rallied strongly too, with 10-year yields established in negative territory at minus 0.03% and approaching the record lows of -0.043% hit in Sept 2016 .

The rally extended to the euro zone periphery where Portuguese, Spanish and Greek bond yields also hit record lows , . Greek 10-year bond yields fell nearly 50 basis points last week.

The moves come ahead of a European Central Bank meeting on Thursday at which it is expected to extend forward guidance and offer TLTRO funding at -25bp.


Italian yields too pulled back from earlier rises, with 10-year yields slipping seven bps.

They had been up as much as 4 bps in early European trade after Prime Minister Giuseppe Conte threatened to resign, Italian newspapers La Repubblica and Il Corriere della Sera reported. He will hold a news conference at 1615 GMT.

Italian debt sold off heavily last week after the European Commission wrote to Rome asking for an explanation as to why public debt rose in 2018 instead of falling as required.

Responding to the letter, Italy said it would respect European Union fiscal rules in its next budget, despite a pledge by the anti-austerity government to cut taxes. 1/8nL8N23752Y

Italian bonds suffered their worst selloff in more than 25 years on May 29 last year following the appointment of an interim president and calls for snap elections amid political turmoil.

(Reporting by Virginia Furness; additional reporting by Giselda Vagnoni in ROME, Editing by William Maclean and John Stonestreet)