Euro zone bond yields dip before widely-anticipated Fed rate cut

By Jaspreet Kalra

Sept 17 (Reuters) - Euro zone government bond yields edged lower on Wednesday ahead of a widely-expected U.S. Federal Reserve rate cut later in the day, with focus on any cues over the extent of easing the Fed may deliver this year.

Germany's 10-year bond yield DE10YT=RR, the benchmark for euro zone debt, was down 2 basis points at 2.68%. French and Italian bonds traded in line with their German counterparts FR10YT=RR, IT10YT=RR, echoing muted moves in U.S. Treasury yields.

U.S. 10-year Treasury yields US10YT=RR fell 1.5 bps to 4.01%, while rate-sensitive 2-year yields US2YT=RR hovered at around 3.50%.

On the longer end of the curve, U.S. and German 30-year bond yields US30YT=RR, DE30YT=RR slipped by about 2 bps each to around 4.62% and 3.26%, respectively.

Germany's 30-year Bund auction also sailed through on Wednesday with an improved bid-to-cover ratio compared to the last auction, signalling strong appetite for the debt following recent pressure on long-dated bonds.

POWELL COMMENTARY AND ECONOMIC PROJECTIONS

Traders fully price in a 25 basis-point cut by the Fed and equally important will be commentary from Fed Chair Jerome Powell and policymakers' updated economic and interest rate projections.

Analysts reckon that a rate decision along expected lines could spur an uptick in Treasury yields and the dollar in a "buy-the-rumor, sell-the-fact" reaction in markets.

"There is a lot already in the price," said Kenneth Broux, head of corporate research for FX and rates at Societe Generale, pointing to the recent weakness in the dollar and decline in Treasury yields.

The dollar has fallen nearly 1% this month against other major currencies =USD.

A dovish surprise from the Fed, meanwhile, could prompt U.S. Treasuries to outperform their German counterparts as investors have pared expectations of policy easing from the European Central Bank.

Money markets expect the Fed to lower policy rates by nearly 70 bps by the end of 2026 but price in an about 50% chance of a 25 bps rate cut by the ECB by the middle of next year.

Data released on Wednesday showed that month-on-month consumer inflation in the Euro zone stood at 0.3% in August, in line with expectations.

The spotlight will also be on whether Fed policymakers considered an outsized 50 bps cut at a time when President Donald Trump has pressured them to cut rates further, casting a shadow over central bank independence.

Elsewhere, Wednesday's data showed British inflation held at 3.8% in August, remaining the highest of any major advanced economy.

Although the Bank of England is expected to keep rates unchanged on Thursday, Norway's central bank, which meets the same day, is expected to lower rates by 25 bps.

"The latest data doesn’t dramatically move the needle one way or another on the prospect of a further rate cut (by the BoE) later this year," ING analysts said in a note.

Britain's 10-year gilt yield was last down 2 bps at 4.62% GB10YT=RR.