Euro zone bond yields steady as Omicron fears fade

Euro zone government bond yields edged higher on Tuesday as fading concerns about the economic impact of the pandemic supported risk sentiment, and investors focused on the future tapering of central banks’ monetary stimulus.

Asian shares were higher, lifted by another record-setting day on Wall Street.

Germany’s 10-year government bond yield, the benchmark of the bloc, was up 0.5 bps at -0.24%

“We continue to look at Omicron as a less dangerous variant than the previous one; if that isn’t the case, we will probably have to change our forecasts,” Andrea Delitala, head of the euro multi-asset at Pictet Asset Management, said.

“The general idea is that governments will be able to deal with the pandemic, but central banks won’t change their more hawkish stance to fight inflation,” he added to explain the rise in yields.

Italian government bond prices underperformed their peers, with the 10-year yield up 1.5 bps at 1.142%.

“In the case of Italy, spreads are reacting to country-specific news, namely the debate about whether Mario Draghi will be staying as prime minister or becoming Italian president,” Thomas Wacker, head credit at UBS Global Wealth Management’s Chief Investment Office, said.

The Italian parliament will choose a new president in January, and former ECB chief Mario Draghi, the leading candidate, will have to leave his job as Italian prime minister if elected.

Analysts have warned of a potential increase in Italian risk premium should Draghi become president as confidence in the country’s debt-ridden economy improved as he took office as prime minister in February 2021.

They see snap elections as the worst-case scenario and political uncertainty could hurt bond prices.

“We see a spread between 10-year Italian and German bond yields widening up to 150 basis points if political uncertainty about the current government’s future persists,” Pictet’s Delitala said, but added he regarded the risk of snap elections as very low.

Even if made president, Draghi might appoint a senior minister from his cabinet as his successor, and Italy could enjoy relatively stable politics in 2022 upon the start of Draghi’s seven-year reign as head of state.

The spread between Italian and German 10-year yields was 137.6.