Short-dated euro zone yields set for biggest weekly rise since March

By Linda Pasquini and Amanda Cooper

June 6 (Reuters) - Euro zone bond yields headed for their largest weekly rise since March after the European Central Bank signalled it may be nearing the end of rate cuts and U.S. data suggested the world's largest economy was still creating jobs at a steady clip.

Yields on two-year German government debt DE2YT=RR headed for a weekly rise of almost 10 basis points, the most since early March. The two-year Schatz is the most sensitive to changes in expectations for euro zone monetary policy.

The ECB on Thursday cut its deposit rate by 25 basis points to 2% on as expected and dampened prospects of further rate cuts with ECB President Christine Lagarde saying the bank was in a "good place", hinting at a potential pause to the easing cycle.

Adding to the pressure on short-dated bond prices, which pushed up yields, was U.S. data that showed 139,000 workers were added to nonfarm payrolls in May, slower than April's downwardly revised 147,000, but still roughly in line with expectations.

"The jobs market has slowed, but it hasn’t ground to a halt. While the report confirmed the cooling trend we saw in almost all of this week’s data, continued labour market resilience could help the economy sidestep recession," Ellen Zentner, who is chief economic strategist for Morgan Stanley Wealth Management, said.

German two-year yields DE2YT=RR were flat at 1.873% at 1455 GMT, having risen 8.5 bps on Thursday, their largest one-day increase in a month.

Some of Friday's recovery in German bonds was down to a pullback from market players that maybe felt Thursday's selloff was excessive, noted Lyn Graham-Taylor, senior rates strategist at Rabobank.

Germany's 10-year yield DE10YT=RR, the benchmark for the euro zone, was last down 2.7 bps at 2.56%.

The spread between the two- and 10-year yields was at 68.80 bps, hovering close to its narrowest since April 4 at 68.20 bps, which it hit the previous day.

Money market traders have now priced in 24 basis points of easing by year-end and implied about a 18% chance of a rate cut in July, from about 30% before Lagarde's press conference.

The central bank also lowered its inflation and growth projections as the U.S. president's trade war continues to impact the global economy.

"The ECB's scenarios regarding the trade conflict make it clear to us that future interest rate policy is likely to depend heavily on Donald Trump's decisions," analysts at Frankfurt-based Metzler wrote in a note to clients.

If the European economy weakens further then the central bank might cut interest rates again, policymaker Yannis Stournaras told Bloomberg TV in an interview on Friday, adding that "this is not expected."

In Europe, stronger-than-expected revised numbers for economic growth for the euro zone in the first quarter and retail sales data drew hardly any reaction from the bond markets.

Italian 10-year yields IT10YT=RR, which serve as a benchmark for more indebted euro area countries, was down 5 bps at 3.5%. Two-year BTPs IT2YT=RR were flat at 2.12%.