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German 10-year bond yields set for biggest weekly drop since June

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* Euro zone periphery govt bond yields tmsnrt.rs/2ii2Bqr (Updates prices and adds new comment)

AMSTERDAM, Oct 16 (Reuters) - Germany’s 10-year bond yield was set for its biggest weekly drop since June, but markets stabilised on Friday near seven-month lows following Thursday’s flight from risk prompted by measures to curb coronavirus infections in Europe.

Safe-haven German bond yields have fallen to their lowest levels since mid-March, when the coronavirus first spread globally. A rally that had pushed Italian bond yields to record lows has also come to an end.

As markets stabilised on Friday, Germany’s 10-year yield was down 1.4 basis points to -0.62%.

U.S. President Donald Trump’s willingness to raise his offer for a coronavirus relief package to get a deal with the House of Representatives helped risk sentiment during U.S. trading on Thursday.

Still, German 10-year yields were set for their biggest weekly drop since the week ending June 12, down 9 basis points this week.

“The excess liquidity continues to support the bond market for the rest of the year, and with the possibility of a break-down in the Brexit negotiation, rising infections etc., then the safe-haven buying could continue short-term,” Jens Peter Sorensen, chief analyst at Danske Bank, told clients.

Thursday’s sell-off in Southern European bond yields, led by Italy, came to a halt on Friday. Italy’s 10-year yield was last down 5.2 bps at 0.64%, having touched 0.635% earlier in the day, though it did not dip below the all-time low of 0.634% hit this week. Yields on other maturities of Italian debt also fell by 4 to 6 bps.

“If you were in the camp like we are and you think there’s a deterioration on the virus front, or that any euro strength leads to the likelihood of the ECB doing something in terms of easing, then you would view that as a positive for the peripherals,” said Rabobank rates strategist Lyn Graham-Taylor.

“We would have tried and view yesterday as an opportunity to go long the (Italian debt).”

The risk premium Italy pays for 10-year debt compared to Germany was 126 basis points, down from two-week highs of 136 basis points hit on Thursday.

Analysts expect Thursday’s sell-off to be temporary, noting support from the European Central Bank’s emergency pandemic bond-buying programme. Investors also expect more stimulus from the ECB by the end of the year, of which Italy would be a leading beneficiary.

“We do not expect yesterday’s widening to gain momentum, precisely because of these technical supportive factors,” UniCredit analysts said.

A number of ECB governing council members spoke on Friday.

Bank of Italy Governor Ignazio Visco said it was important to avoid early withdrawals of policy because pre-COVID conditions will not return.

Finland’s Olli Rehn said the ECB should follow the U.S. Federal Reserve in putting more emphasis on welfare, even if it means inflation exceeds its target temporarily.

Ireland’s central bank governor Gabriel Makhlouf said there has been no change to the macroeconomic environment since the ECB’s last meeting. (Reporting by Yoruk Bahceli; Additional reporting by Olga Cotaga; Editing by Catherine Evans)

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