German 10-year bond yields set for biggest one-day fall since April

By Stefano Rebaudo

July 21 (Reuters) - Benchmark German bond yields headed for their biggest one-day drop since early April on Monday as investors snapped up longer dated debt ahead of euro zone PMI surveys and the European Central Bank’s monetary policy decision later this week.

The drop in 10-year yields outpaced that in shorter-dated bonds, a dynamic known as yield curve flattening, following four weeks of steepening trades, where investors focussed on Germany's plans to increase government spending and the likely impact on long-term borrowing costs.

Markets forecast that increased fiscal spending will lead to a greater supply of government bonds, and higher yields.

Economists expect the ECB to leave rates unchanged on Thursday, before potentially cutting them in September.

Germany’s 10-year government bond yield DE10YT=RR, the euro area’s benchmark, fell as much as 8.2 basis points at one point, and was last down 7.5 bps at 2.61%.

Some analysts expect June PMIs on Thursday to show business activity stagnated, citing tariff uncertainties and a strong euro — factors that could lend support to Bund prices.

German two-year government bond yields DE2YT=RR – which are more sensitive to changes in expectations for ECB policy – fell 4.2 bps to 1.811%, leaving the premium of 10-year debt over 2-year at 80.5 bps, down 3.8 bps on the day DE2DE10=RR.

Money markets are fully pricing in one 25-bp ECB rate cut by December EURESTECBM4X5=ICAP, and around a 50% chance of that move coming in September EURESTECBM2X3=ICAP.

Investors are also watching tariff negotiations after the Financial Times reported on Friday that U.S. President Donald Trump is pushing for a minimum tariff of 15% to 20% in any deal with the European Union.

“I believe June marked the final (ECB) rate cut, assuming the average U.S. tariffs for Europe will be at around 10%,” said Simon Wells, chief European economist at HSBC.

“A persistent 30% tariff might not be enough to trigger a recession but, in this case, we will likely see some ECB reaction,” he added.

Euro zone firms remain optimistic about their growth prospects but are also experiencing pressure on their profits, in part due to trade tensions, an ECB survey showed on Monday.

Italy’s 10-year government bond yields IT10YT=RR were down 9.5 bps at 3.483%, with the spread between BTP and Bund yields - a market gauge of the risk premium investors demand to hold Italian debt - at 86.4 bps. It hit 84.20 bps in June, its lowest since March 2015.