Bond investors lap up tepid inflation data, push Portuguese yields to new low

LONDON - Portuguese bond yields hit their lowest level in more than 2-1/2 years on Thursday, leading a fall in euro zone borrowing costs as weaker-than-expected inflation data from the bloc suggested the ECB will only remove its massive stimulus gradually.

Inflation in the 19-country single currency area rose to 1.5 percent in November from 1.4 percent in October, missing expectations for 1.6 percent and remaining below the ECB’s target of close to but below 2 percent.

This so-called “flash” inflation estimate came as relief to bond investors, who had braced for a strong number after firmer-than-expected inflation numbers from Germany on Wednesday.

“If there was a reason to buy back bonds today after yesterday’s selloff, it is the lower-than-expected inflation numbers,” said Orlando Green, European fixed income strategist at Credit Agricole.

The most pronounced moves in regional bond markets came from southern Europe, which analysts said continued to benefit from investors’ hunt for yield against a backdrop of still loose ECB monetary policy and a benign inflation environment.

The yield on Portugal’s 10-year bond fell 4 bps to 1.899 percent, its lowest level since early 2015. It was set to end November with eight straight months of falls.

That pushed the gap between Portuguese and German 10-year bond yields to 153 bps, the tightest since April 2015.

The Italian and Spanish bond spreads over Germany also narrowed, reflecting the outperformance of peripheral bond markets over their top-rated peers in the bloc.

Italy’s 10-year bond yield spread with Germany narrowed to as much as 138 bps - its tightest in 3 weeks.

Germany’s 10-year bond yield fell 1.5 bps on the day to 0.37 percent. It was almost 4 bps below 2-week highs hit in early trade at around 0.41 percent.

That followed a rise of around 5 bps on Wednesday - the biggest one-day jump in Bund yields in 3 weeks against a backdrop of stronger-than-expected German inflation numbers, further signs of strength in the U.S. and European economies and a sell-off in British gilts.

The ECB should shut the door on its monthly asset purchases next September, according to a majority of economists in a Reuters poll, but they were split on whether it would.

Most believe it will stop by the end of next year with a small number saying mid-2019.