Euro zone bonds steady ahead of US data; volumes thin

By Amanda Cooper and Stefano Rebaudo

LONDON, Aug 12 (Reuters) - Euro zone government bond yields held steady on Tuesday, after the United States and China rolled over a trade truce for 90 more days, as expected, while looking ahead to U.S. inflation data that may firm up forecasts for a prompt rate cut.

German 10-year yields DE10YT=RR traded around 2.6977%, while two-year yields DE2YT=RR were little changed at 1.9706%.

Data later on Tuesday is expected to show U.S. consumer price inflation accelerated moderately in July. The rising cost of imported goods such as furniture and apparel likely pushed up a gauge of underlying inflation by the most in six months.

Traders now expect the Federal Reserve to deliver another rate cut, possibly as early as September, in stark contrast with the European Central Bank, which may not lower borrowing costs for the foreseeable future.

The premium of U.S. Treasury yields over those of 10-year Bunds DE10US10=RR has shrunk to its smallest since April this month, hovering around 158 bps, as Bunds have traded in a narrow range, while 10-year U.S. note yields dropped sharply last week, although they have retraced higher since.

"The latest bearish bond market dynamics have taken 10-year Bund yields to the middle of the summer trading range ahead of today's data impetus," Commerzbank analysts said in a note, adding that trading volumes are thin, given the time of year.

Bund futures FGBLc1 logged their smallest daily volume on Monday since early June, at 441,000 lots. Daily volume has exceeded the 1 million-lot mark just once this month, compared with three times at this point in July and three in June, according to LSEG data.

U.S. Treasury yields edged up in London trade before U.S. data with the benchmark 10-year yield US10YT=RR up 0.5 bps at 4.28% and the two-year US2YT=RR up 1.5 bps at 3.77%.

"In our view, Fed would be more sensitive to employment rather than inflation data over the coming months," said Mohit Kumar, economist at Jefferies.

"If we get a continued slowdown in the employment picture, we expect the Fed to deliver rate cuts even in the face of sticky inflation," he added.

Euro zone rates are expected to take cues from U.S. Treasuries, but with a more subdued response.

"Once those (inventories sold at pre-tariff prices) are cleared, the full force of tariffs will begin to show," said Padhraic Garvey, regional head of research Americas at ING, arguing readings of 0.4% month-on-month inflation will become more common, possibly even higher.

"The July consumer price index (CPI) may offer the first glimpse of this shift," he added.

Italy's 10-year yields IT10YT=RR were flat at 3.51%.