June 5, 2019 / 7:46 AM / 2 months ago

UPDATE 1-German Bund yields hit record low on Fed, ECB expectations

* Fed’s Powell seems to open door to rate cut

* German Bund yields drop to new low of -0.225%

* Rumours of generous TLTROs helps Italian debt

* Euro zone periphery govt bond yields tmsnrt.rs/2ii2Bqr (Adds quotes, background)

By Abhinav Ramnarayan

LONDON, June 5 (Reuters) - Germany’s 10-year bond yield reached a record low on Wednesday and Italian debt held on to this week’s gains as investors ramped up their bets on a rate cut in the United States and a generous loan package for banks in the euro zone.

Most major government bond yields dropped after U.S. Federal Reserve Chair Jerome Powell said overnight the Fed would respond “as appropriate” to the risks posed by a global trade war.

The remarks seemed to signal the possibility of a rate cut, pushing U.S. Treasury yields lower and Japanese and German borrowing costs to record lows. Germany’s 10-year bond yield, the benchmark for the euro zone, dropped nearly two basis points to -0.225% at one stage.

Most other euro zone bond yields were also 1 to 2 basis points lower. Dutch 10-year yields were close to a record low at -0.04%.

“A lot of investors interpreted Powell’s speech as rather dovish and in addition, there are rumours that the ECB might act more than expected tomorrow,” said DZ Bank analyst Sebastian Fellechner.

The European Central Bank is largely expected to offer a targeted loan refinancing operation (TLTROs) — cheap loans — to jumpstart slowing economic growth and inflation.

Italian debt rallied in recent days on rumours that the TLTROs will give banks more leeway than previously expected and allow them to buy more peripheral government bonds with the proceeds, Fellechner said.

Italy’s 10-year government bond yield is down 14 basis points this week so far at 2.52%, even though the European Union may start proceedings this week to fine Italy for breaching debt limits.

Euro zone government bond yields in general have been pushed lower by worries over the global economy in the face of a trade dispute between the United States and China.

On Wednesday, the International Monetary Fund cut its 2019 economic growth forecast for China to 6.2%, saying that more monetary policy easing would be warranted if the Sino-U.S. trade war escalates.

In Europe, a market gauge of long-term inflation expectations — the five-year, five-year forward rate — has dropped below 1.30% and is approaching a record low of 1.25% set in July 2016.

Euro zone purchasing managers’ indexes for services could provide some relief if the number is above 52.5, as expected by the market, according to a Reuters poll. (Reporting by Abhinav Ramnarayan; editing by Larry King)

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