Scarcity threat pushes German 2-year yields to record low

 LONDON : Two-year German government bond yields hit further record lows on Friday as banks loaded up on bonds likely to become scarcer after recent tweaks to the European Central Bank’s asset purchase programme.

On a day when most high-rated euro zone government bond yields were down 3 to 4 basis points, the yield on the German two-year government bond, the Schatz, hit minus 0.80 percent for the first time. The ECB said last week it would reconfigure its bond-buying scheme at the start of 2017, introducing changes that suggested it would focus purchases on short-dated government bonds.  It expanded the eligibility of the scheme to include bonds with maturities of one year and above and bonds yielding less than the deposit rate.

Investors were already struggling with a shortage of short-dated bonds – used as collateral to borrow in money markets – before the changes, and this is expected to worsen.

“The ECB has come up with measures to reduce scarcity, but it’s not going to make a sea change,” said ING strategist Martin van Vliet, referring to the ECB’s move to make a securities lending programme easier to access.

On Thursday, banks rushed to make use of this programme to borrow German government bonds from the Bundesbank, market sources told Reuters.

“The fee is still very punitive for securities lending. Going into next year I would expect the Schatz yield to go up a bit – but it will remain at very low levels,” van Vliet added.

Mizuho strategist Peter Chatwell said that this collateral scarcity could make the two-year borrowing costs of stronger-rated euro zone countries converge as time wears on. “This is most likely to be true for France, as its repo rate is the most likely to hit minus 0.70 percent in the coming months.”

French two-year bonds yielded minus 0.65 percent, down 2 bps on the day. The 15 bps spread over German equivalents is narrower than the 10-year spread, which stood at 45 bps. Euro zone bond yields fell across the curve on Friday, with the long end in particular in demand, most likely a spillover from moves in Japanese government bonds, according to Chatwell.  The yield on Germany’s 30-year bond led the activity, dropping as much as 10 bps to a one-week low of 1.03 percent. Yields on other higher-rated 30-year euro zone bonds also dropped as much as 8 bps.

“There’s no real driver in Europe for these moves, but it is likely a spillover from the Japanese government bond curve, with the Japanese central bank stepping up the intensity of its long end buying,” said Chatwell.

The yield on Japan’s 30-year government bonds has fallen 14 bps over the past three sessions to 0.68 percent.

Euro zone bonds tend to move in sympathy with big moves in other large government bond markets in Japan and the United States because many investors have exposure to all three and switch between them.

Italian bond yields rose, pulling back from one-month lows hit earlier this week around 1.77 percent after UniCredit announced the country’s biggest ever share sale and new Prime Minister Paolo Gentiloni presented an almost unchanged cabinet.