Euro zone government bond yields dipped on Friday, but headed for a weekly rise, as the rebound in energy prices has prompted investors to assume the European Central Bank may need to deliver more than one more rate hike this year.
The oil price, which had fallen to its lowest since late February last week, has risen 11% this week, briefly hitting one-month highs above $85 a barrel, as the United States and Iran have escalated attacks on one another in the Gulf, effectively closing the Strait of Hormuz.
German and Italian bond yields rise across maturities
Two-year Schatz yields have risen 10 basis points this week and on Friday were trading at 2.752%, up 1 bp on the day. This maturity is the most sensitive to any changes in expectation for rates or inflation. The premium the U.S. government must pay to borrow for two years over that of the German government has fallen to 137.7 bps, its smallest in two months.
Two-year Italian bonds have performed the worst this week, which has sent yields up 13 bps to 2.97%, given Italy relies more heavily on imported fuels than many of its neighbours.
Benchmark 10-year German Bunds have fared similarly poorly. The yield has risen around 9 bps this week, almost matching the weekly increase in 10-year French bond yields, but behind the 14-bp increase in Italian BT yields.
Strategists and economists remain split on further hikes
Economists believe two more hikes on top of June's are unlikely and some think a number of the big central banks, including the Federal Reserve and the Bank of England, will not resort to more increases this year at all.
"As oil prices remain elevated, we could get more hawkish comments from the central banks. Our view still remains that we should not see any hike from the Fed, BoE or the ECB this year," Jefferies strategist Mohit Kumar said.
"Our pecking order of confidence is the BoE, Fed and the ECB. The lower confidence in ECB reflects the difference in mandate. While the Fed and BoE respond to both growth and inflation, ECB has a singular inflation mandate."
U.S. Treasuries outperform after cooler inflation readings
A flurry of cooler U.S. inflation readings has helped U.S. Treasuries to outperform the rest of the global bond market this week. Two-year Treasury yields have fallen by the most in a month, with a drop of 9 basis points, to 4.12% on Friday.
Given the European economy's greater vulnerability to imported energy inflation, euro zone bonds have come under pressure, which has sent yields higher across the board, as investors now see the ECB raising rates at least once more in September and attach a 65% chance of a second hike before the end of the year, from just one hike last week.
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