Bund yields drop on lower energy prices as focus shifts from German election

Markets will closely watch Merz push to continue his policy agenda French and Italian bonds rebound after Friday's sell-off Traders fully price two ECB rate hikes by early next year By Stefano Rebaudo Sept 21 (Reuters) — Euro area benchmark Bund yields dropped on Monday, tracking moves in oil prices and showing a muted reaction to gains by the far-right Alternative for Germany (AfD) and a far-left party in regional elections.

German Chancellor Friedrich Merz vowed to accelerate reforms to move Germany forward, despite a disastrous showing for his own conservatives (CDU) that saw the far-left Linke party winning the Berlin state election and the AfD taking first place in the state of Mecklenburg-Western Pomerania. Oil prices slid to their lowest in more than a week on hopes diplomacy in the Iran war will get a chance at a UN meeting this week, and as investors eyed a partial recovery in shipments from Saudi Arabia despite ongoing attacks by Yemen's Houthis.

The AfD's growing popularity could have pressured Bunds on concerns that increased frictions within the federal government following weak CDU results would hinder the passage of reforms, clouding Germany's fiscal and economic outlook, analysts said. However, market participants still expect the current government to continue its policy agenda. "After a potentially contentious debate, the coalition will likely soften some of the envisaged entitlement cuts, for instance with a long transition period for the end of early retirement," Holger Schmieding, chief economist at Berenberg, said.

"Nonetheless, I still expect the coalition to implement the bulk of its planned pro-growth reforms," he added. 46%. "Our base case remains that Merz survives, but the leadership meetings this week will be closely watched by markets looking for signs of further political instability at the core of Europe," said Evelyne Gomez-Liechti, multi-asset strategist at Mizuho. French And Italian Bonds Rebound French and Italian government bonds rebounded after Friday's sell-off, which was triggered by expectations of a steeper path for policy rates, a prospect that would increase borrowing costs for the euro area's heavily indebted countries.

37%. 5 bps and 10 bps, respectively, on Friday. 7% in 2027, the finance ministry said on Saturday. "Arguably, a lot of the political and fiscal risk is already priced into the spread," Charlotte de Montpellier, senior economist at ING, said, adding that 10-year French bonds yield more than 10 bps above their Italian counterpart, which has debt metrics worse than France.

"But without any positive developments in the Middle East and/or more encouraging headlines out of the political arena, the 10-year spread could occupy a range of 100 to 125 bps in the coming months," she added, referring to the spread over Bund yields. 1% in 2025. 50%, and at 3% by February 2027. com)