Trump inflation bets kick market gauges, bond yields to multi-month peaks

London (Nov 10)  Euro zone bond yields hit multi-month highs on Thursday, rising in the slipstream of the biggest surge in U.S. yields seen in years as investors bet Donald Trump's protectionist trade policies and fiscal spending would boost inflation.

German and French government bond yields rose to six-month peaks, while their Italian equivalents nudged up to a one-year high as Trump's shock victory threw a spotlight on a referendum vote next month in Italy, the euro zone's third largest economy.

A key market gauge of long-term inflation in the euro zone rose to 5-1/2-month highs while U.S. equivalents rose to 16-month highs.

Expectations for rising consumer prices under a Trump presidency sparked a rebound in U.S. yields on Wednesday from 1-month troughs to 10-month peaks in one of the biggest bond market swings seen in years.

While it is still uncertain how Trump's policies will impact the U.S. economy, let alone Europe's, markets appear to remain confident that the U.S. Federal Reserve will raise interest rates and are focused on whether the European Central Bank will soon scale back its ultra-easy monetary stance.

"There is a shift in fiscal policy in the U.S. and what that means is more uncertainty in the long-term for fixed income," Mizuho strategist Antoine Bouvet said.

"In Europe ... there is no reason for the ECB to change course and the risk of tapering will remain at the centre of attention."

ECB rate setters said on Wednesday they were prepared to respond to any economic shock from Trump's election. Any weakening in the United States, the world's largest economy and Europe's top trading partner, is bad news for the ECB, which is trying to support the euro zone's recovery with sub-zero interest rates, bond buying and cheap loans to banks.

The ECB will decide on the future shape and duration of its bond-buying programme in December. It is almost certain to extend purchases beyond its current March deadline, although there is uncertainty over whether it may reduce or 'taper' the monthly pace.

Meanwhile, money markets are pricing in around a 70 percent chance of the Fed raising rates in December for just the second time this decade, similar to expectations before Tuesday's election, according to CME's FedWatch.

IMMEDIATE IMPLICATION

Yields on 10-year German bonds - the euro zone benchmark - struck their highest levels since late April, up 10 basis points at 0.28 percent. Thirty-year yields rose 13 bps to 0.92 percent, their highest since late May.

The gap between two- and 10-year German yields hit its widest since January at 92 bps, a steepening curve that signals investors are reassessing their views for future inflation.

French 10-year yields were up as much as 10 bps at 0.62 percent , while Spain's rose 7 bps to hit 1.34 percent , levels last seen in June, just after Britain voted to leave the European Union.

Italy's rose to a one-year high at 1.80 percent as investors turned their thoughts to the next big political event in the euro zone, a Dec. 4 constitutional referendum on which Prime Minister Matteo Renzi has staked his future.

The gap between yields on similarly-rated Italian and Spanish bonds -- seen as a bellwether of political risk -- was near its highest level since the 2012 debt crisis at 49 bps.

Earlier, U.S. 30-year yields gained nearly 25 basis points in their largest daily jump since August 2011, while 10-year yields climbed 21 bps to their highest level since January, and their biggest increase in more than three years .

A key market measure of long-term U.S. inflation - the five-year, five-year forward - rose to 2.38 percent, its highest since July 2015. The European equivalent rose to a level last seen in late May at 1.4890 percent .

"When we think through the possible implications of some of Trump's proposals which have to do with increasing tariffs, the most immediate implication is increasing prices - which is inflation," Michael Hasenstab, CIO of Templeton Global Macro, said in an emailed statement.

The rise in yields also came after a poorly received U.S. 10-year auction on Wednesday, which has the lowest bid-to-cover since March 2009. Analysts said bond markets were also showing nerves over how an auction of 30-year U.S. bonds on Thursday would fare.

Source: Reuters