German bunds rate: Will they continue to rise?

By Ryan Hogg

Edited by Vanessa Kintu

15:05, 21 March 2023 Updated

German two-year Bund yields fell by 41 basis points (bps) on 13 March. The largest single-day drop since records began 30 years earlier. Yields of German 10-year Bunds dropped by around 55 bps.

The drop came as two US banks, California-based Silicon Valley Bank and New York-based Signature Bank collapsed under the weight of heavy losses on their bond portfolios and a massive run on deposits.

US Treasury notes’ two-year yields also fell by 61 bps on 13 March, the biggest one-day fall since 1982.

German bunds are Germany’s form of sovereign debt issuance, equivalent to US Treasury bills or UK gilts.

The German state issues bunds to finance expenditures on things like roads and schools. They are highly attractive as safe-haven assets.

Bunds see their rates rise in response to several factors, but usually those associated with bearish times in the wider economy. They can rise in response to volatile market risk like high levels of high inflation or a flagging stock market, or as a result of rising interest rates.

Holding bunds is seen as safe haven investing, due to their low risk and high likelihood of returns. However, bunds carry an interest rate risk as rising German bond yields diminish the value of bonds held by investors. At the moment (11 November), they’re growing faster than inflation.

Typically, bunds appreciate in interest as their maturity expands, reflecting the risk apparent in holding assets for longer.

Bullish Bearish

59% 41%

You voted bullish.

You voted bearish.

Give EUR/USD a try

In late 2022, saw a rise amid a perceived high market risk.

Inflation in Germany has risen rapidly as the country battles the fallout of jammed supply chains following the lifting of Covid-19 restrictions, and the Russia-Ukraine conflict.

The Consumer Prices Index (CPI) rose by 8.7% in February, 0.8% higher than in January. Meanwhile, the Harmonised Index of Consumer Prices was 9.3%, 1.0% higher than the previous month.

Germany, more than several of its eurozone compatriots, was heavily dependent on Russian energy prior to Russia’s invasion of Ukraine – 55% of the country’s gas imports in 2021 came from Russia, according to the World Economic Forum (WEF). By June 2022, that figure had declined to 26%.

Inevitably, this added to a steep rise in costs. Energy product prices in February were up 19.1% year-over-year (YOY).

According to analysts, rising inflation also impacted German bonds.

AUD/USD

AUD/USD_zero

EUR/USD

USD/JPY

“The skyrocketing inflation trend in Germany is generating an earthquake for the Bund market,” Capital.com analyst Piero Cingari wrote in a note.

This is because inflation has forced the European Central Bank (ECB) – which has a 2% CPI target – to hike interest rates with hawkish intention, affecting borrowing for eurozone member states like Germany.

The ECB increased its deposit facility by 75 bps consecutively in September and October, and a further 50 bps in December, February 2023 and March 2023.

Prior to the fall in March, 10-year German bonds appeared to be responding to the hikes, rising from 0.77% at the start of August to 2% on 10 November.

However, the collapse of the two US banks seems to be costing bunds their status as a safe-haven asset.

Germany is also coping with a steep budget deficit tied to both the Covid-19 stimulus and measures taken since Russia’s campaign against Ukraine began.

The country recorded a €189bn deficit in 2020, its biggest since German reunification in 1990, as it filled public coffers to accommodate aggressive lockdowns. This fell to a still substantial €132bn in 2021.

Germany ran a deficit of €13bn in the first half of 2022, having amassed a €75.6bn deficit in the first half of 2021. As a result, a surging number of supply of bonds have been made available by the German government, which has perhaps helped keep rates lower than they would be otherwise.

This is expected to escalate, with Germany planning to double borrowing to €45bn in 2023 to fight the effects of an energy shortfall, sources told Bloomberg.

Piero Cingari noted that this could affect the bond market outlook:

According to World Government Bonds, the 10-year German bond is forecast to hit 2.612% by the end of June 2023, an increase of 33.6 bp on current levels.

Meanwhile, Trading Economics expected that in 12 months’ time, the 10-year yield could reach 3.37%, after hitting 2.69% at the end of this quarter.

They are Germany’s form of sovereign debt issuance, equivalent to US Treasury bills or UK gilts.

The 10-year German bond has recently fallen in response to two US banks collapsing under the weight of heavy losses on their bond portfolios and a massive run on deposits.