The eurozone experienced a shift due to recent behavior in bond German yields, reflecting a realignment of monetary policy expectations within the bloc. The relationship between a cautious stance on the part of European banks and weak analysis of US labor data is leading to instability. This market volatility has led investors to reevaluate their bets and interest rate cuts.
Understand the real income situation in the eurozone
Germany’s two-year government bond yields were set for a weekly rise, as traders unwound rate-cut bets that had surged following last week’s weaker-than-expected U.S. jobs data. The Bank of England’s policy decision pushed two-year gilt yields higher on Thursday, helping lift euro zone short-dated borrowing costs as well.
Analysts expect U.S. Treasury yields to decline, while euro zone yields are seen rising later this year as Germany kicks off a major fiscal spending push aimed at reviving growth. Germany’s 10-year government bond yields DE10YT=RR, the euro area’s benchmark, were set for a second straight weekly decline, down around 3.5 basis points (bps), and last up 0.5 bps on the day at 2.65%.
The policy-sensitive German two-year yield DE2YT=RR was on track for a weekly rise of 3 basis points, trading 1 bp higher on the day at 1.93%. Market pricing for Federal Reserve rate cuts held steady at levels seen last Friday after the latest economic data, with around a 90% chance of an easing move next month and 124 basis points of cuts priced in by October 2026.
Expectations of an ECB interest rate cut weaken
ECB euro short-term rate (ESTR) forwards last implied an 80% chance of a 25-basis-point rate cut in March 2026 EURESTECBM5X6=ICAP, down from fully pricing it after Friday’s U.S. jobs data. The depo rate is currently at 2%. However, traders also see a good chance of a rate hike by December 2026, with the deposit rate projected at 1.9%. EURESTECBM1X12=ICAP
“We believe the implications of the recent economic data are generally in favour of lower (U.S.) Treasury yields. The revised jobs data have helped reconcile the discrepancy between the apparent resilience of job gains and real gross domestic product growth having moved sharply lower amid rising tariff rates in the first half of the year.”” said Anshul Pradhan, head of U.S. rates research at Barclays.
It’s clear that the European market is weakening, especially in pricing in interest rate cuts by the ECB. This suggests that investors are beginning to consider a more resilient inflation scenario. The outlook is for a less aggressive reduction in the deposit rate, reinforcing caution, as anticipated moves could directly impact financing costs and interest in short-term sovereign bonds.
Attention is focused on succession in the Feed
Markets are also watching closely for signs of who might succeed Jerome Powell as Fed Chair, with Christopher Waller emerging as a top candidate. Powell is expected to step down when his term ends in May 2026.
Bond prices move inversely to their yields. UK two-year gilt yields GB2YT=RR were last up 2 bps at 3.90% after rising 5.5 bps the day before. Italy’s 10-year government bond yields IT10YT=RR were up one bp at 3.47%.
There is a new understanding of how the market can adjust risk in European debt
With this drop in the spread between Italian and German bonds, which reached its lowest level in 15 years, we have a scenario of greater confidence in the eurozone’s fiscal stability, even amid global monetary uncertainty. Investors now see lower relative risk in assets from peripheral countries.
Although the current European bond market is experiencing a delicate balance between monetary policy expectations and fiscal confidence, the strengthening of some securities indicates that investors still find strategic opportunities, even in an environment where central bank moves may remain uncertain.
GCN.com/Reuters