Euro zone bond yields at multi-month lows as investors track ECB chatter, geopolitics

By Amanda Cooper and Stefano Rebaudo

LONDON, Feb 20 (Reuters) - Euro zone government bond yields headed for a second straight weekly decline on Friday, in a week marked by speculation over the leadership of the European Central Bank and by rising geopolitical tensions between the U.S. and Iran.

ECB President Christine Lagarde told the Wall Street Journal on Thursday she expected to complete her eight-year term at the head of the central bank, following a report earlier in the week she was planning to step down.

That story, reported by the Financial Times on Wednesday, added impetus to the race to succeed Lagarde, bringing potential uncertainty to the ECB, which markets expect to hold interest rates at 2% for an extended period.

At the same time, investors are keeping a close eye on the Middle East, where a massive U.S. military buildup is fuelling fears of a wider war. President Donald Trump on Thursday warned Iran it must make a deal over its nuclear programme or "really bad things" will happen, while Tehran has threatened to retaliate against U.S. bases in the region if attacked, triggering a rise in the price of crude this week.

German 10-year yields DE10YT=RR were set for a decline of 2.5 basis points this week, which on the back of last week's 9-bp drop, brings the fall for February so far to more than 11 bps, the most since April last year.

The 10-year Bunds, a reference point for the wider euro zone market, were last yielding 2.73%, down around 1 bp on the day and just above this week's 2-1/2-month low of 2.725%.

Euro zone business activity accelerated faster than forecast this month.

EURO AREA BONDS OUTPACE US TREASURIES

Some analysts said Bunds have outperformed U.S. Treasuries in recent sessions, reflecting a view that German debt offers greater safety in the event of Iran‑related turmoil.

Yields on Italian BTPs and other euro zone bonds, including those of France and Spain are also hovering around multi‑month lows, having outpaced Treasuries too.

The benchmark 10-year U.S. Treasury yield US10YT=RR traded at 4.07%, up from 4.018% hit earlier this week, the lowest level since November 28.

In the U.S., investors will get a first read of fourth-quarter gross domestic product, which is forecast to have expanded by 3%, and of the Federal Reserve's preferred measure of inflation, the core personal consumption expenditures price index.

Commerzbank strategists said they believed Bunds could come under some pressure, taking their cue from a touch of weakness in the U.S. Treasury market, after minutes from the Fed's last meeting showed policymakers were divided over the outlook for monetary policy, given the persistence of inflation.

"Everything considered, we suggest selling Bunds into strength this morning," Christoph Rieger, who is chief rates strategist at Commerzbank, said.

Italian 10-year yields IT10YT=RR were down 2 bps on the day at 3.344%, their lowest in four months, while French 10-year debt yields were also down nearly 1.5 bps at 3.302%, their lowest in over six months.