March 9, 2020 / 9:37 AM / 25 days ago

UPDATE 4-Italian bond yields surge, German yields, inflation expectations dive

* Italian short end takes big hit after lockdown in wealthy region

* Safe-haven German bond yields plunge to record lows

* Euro zone inflation expectations fall below 1% (Updates prices, adds moves)

By Yoruk Bahceli and Dhara Ranasinghe

LONDON, March 9 (Reuters) - Italian bond yields soared on Monday while safe-haven German debt yields hit record lows and euro zone inflation expectations dived below 1% for the first time ever as a crash in oil prices amplified recession fears spurred by the coronavirus.

In another session of unprecedented market moves, safe-haven German bond yields sank at one point to more than -1% on all maturities out to seven years.

Euro zone money markets meanwhile ratcheted up ECB rate cut expectations, pricing in two 10 basis point rate cuts by June.

A move by Saudi Arabia to raise crude output pummelled oil prices and heightened fears of a global recession, plunging European stocks into a bear market.

The number of coronavirus cases spiked over the weekend, with both new infections and the death rate showing their largest daily increase in Italy - the current focus of the crisis - since the start of the outbreak.

Italy’s two-year bond yield soared as much as 56 basis points to the highest since June 2019. It was last up 34 basis points at 0.40% and Italy’s 10-year yield was last up 30 bps at 1.378.

That pushed the gap between Italy and euro zone benchmark German 10-year yields - a key measure of risk - above 200 bps for the first time since August 2019.

“I think the market is collectively testing the ECB’s resolve and spreads are going to widen until they reach a level where the ECB would intervene,” said Antoine Bouvet, senior rates strategist at ING in London.

Many banks, in addition to the 10 bps rate cut money markets are pricing for the European Central Bank’s meeting on Thursday, have revised their forecasts in recent days to include an increase to the purchases through corporate debt..

A key gauge of long-term euro zone inflation expectations sank below 1% for the first time ever - far off the ECB’s “below but close to 2%” target.

As confidence in the ECB’s ability to shore up inflation and growth prospects collapsed, money markets moved swiftly to price in two full 10 bps rate cuts by the ECB’s June meeting, compared to one last week, and three by the October meeting.

BUND YIELDS PLUNGE

Yields across German debt maturities meanwhile fell to record lows . The two- to seven-year points on the German yield curve all plunged below minus 1% for the first time, while the 10-year Bund fell to a record low of -0.909%.

It was last down 13 bps on the day at -0.85% and set for its biggest daily drop since June 2016 - when Britain voted for Brexit, sending shock waves across world markets.

German bonds are viewed as one of the safest assets in the world.

Two-year German yields, down 12 bps, were poised for their biggest daily fall since the euro zone debt crisis in 2011. The gap between two- and 10-year Bunds was at its tightest since 2008 .

“If they (ECB) do nothing then the yield curve could invert in Germany,” said Peter Chatwell, Mizuho’s head of rates strategy, referring to a key gauge that is usually taken as a sign of an upcoming recession.

Pledges by governments including Germany and Italy to increase spending to tackle the impact of the coronavirus failed to soothe markets.

Elsewhere, 10-year Greek yields jumped as much as 50 basis points to 1.91% in the biggest daily rise since June 2016. . They were below 1% just weeks ago.

Spain’s 10-year bond yield gap over Germany widened to 110 basis points, its widest since April, while Portuguese yields were up 8 bps .

Reporting by Yoruk Bahceli and Dhara Ranasinghe; Editing by Emelia Sithole-Matarise, William Maclean, Susan Fenton

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