April 23, 2018 / 7:47 AM / 8 months ago

Euro zone bonds sell off as U.S. 10-year yield heads towards 3 percent

* U.S./German bond yield spread hits widest in 29 years

* Oil prices are pushing investors out of govt bonds

* Most euro zone bond yields up 2-4 bps

* Euro zone periphery govt bond yields tmsnrt.rs/2ii2Bqr

By Abhinav Ramnarayan

LONDON, April 23 (Reuters) - Investors shed euro zone government bonds on Monday morning after 10-year U.S. Treasury yields headed towards the 3 percent mark as rising commodity prices force inflation expectations higher.

Signs of a thawing of relations between the United States and China are also putting upward pressure on yields, said an analyst.

The yield on 10-year U.S. Treasuries hit its highest level since January 2014 at 2.9790 percent in European trade, and the spread over the German equivalent was briefly at its widest level in 29 years.

As the session wore on, many euro zone government bond yields began to match the rise in U.S. borrowing costs, and were up 2-4 basis points across the board.

German 10-year yields were at their highest in six weeks at around 0.63 percent, up 3 bps on the day.

Apart from the fact that the bonds of the world’s major economies tend to track one another as many investors switch between them, Europe potentially faces the same inflation pressures as the United States from commodities prices.

“Every time you go to the gas station the price is higher - Brent crude is now close to $75 (a barrel) and that has had a knock on effect on government bonds,” said DZ Bank analyst Rene Albrecht.

Brent crude hit $74.15 a barrel on Monday, having hit its highest level since December 2014 the week before at $74.75.

“With pressure from oil, and also aluminium and steel prices, the inflation topic has made a kind of comeback after being derailed by the trade dispute headlines,” said Albrecht.

A market gauge of long-term euro zone inflation expectations, the five-year five-year forward swap , last Thursday hit its highest level since mid-March at 1.697 percent. The U.S. equivalent was last week at its highest level since Feb 5.

Concerns over a potential trade war between the United States and other major economies — particularly China — had boosted demand for major government bonds in recent weeks.

But there were some signs over the weekend that relations may improve, after U.S. Treasury Secretary Steven Mnuchin said on Saturday he is considering a trip to China to work on trade issues and has discussed the potential for market openings in China with Beijing’s new central bank chief.

Elsewhere, Italy’s 10-year government bond yield spread over Germany moved to its tightest level since August 2016 at 116 basis points, defying concerns over a growing political impasse as Italian parties struggle to form a governing coalition.

Later this week, analysts will be keeping an eye on the European Central Bank meeting on Thursday for any signs on how policymakers will unwind extraordinary stimulus. (Reporting by Abhinav Ramnarayan Editing by Peter Graff)

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