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

Germany's 10-year bond yield was set for its biggest weekly drop since June, but markets stabilised on Friday near sevenmonth 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 10year yield was down 1 basis point 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 safehaven buying could continue short-term," Jens Peter Sorensen, chief analyst at Danske Bank, told clients. The sell-off in Southern European bonds led by Italy also came to a halt on Friday, with Italy's 10-year yield down 1 basis point to 0.69%.The risk premium Italy pays for 10-year debt on top of Germany was at 130 basis points, down from two-week highs at 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, and investors expecting 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 won't return.

Finland's Olli Rehn said the ECB should follow the US 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.

Meanwhile, France plans to raise 20 billion euros ($23 billion) in quasi-equity loans for small firms hit by the coronavirus crisis by offering investors a state guarantee against the first 2 billion euros in losses, officials said. Fearing failures among firms which were already saddled with record levels of debt before the crisis, the French government wants the programme up and running by early next year as it battles the economic impact of the COVID-19 pandemic.

Under plans to be presented to the financial sector on Monday, banks would first lend to small and midsized firms and then sell on 90% of the loans to institutional investors, people familiar with the proposals told. That would limit banks' risk exposure to 10% of the loans, while also steering funds to viable firms.

Since a public guarantee is involved, EU state aid regulators have to give the programme their blessing, particularly the interest rate that would be charged.

"The discussion is going well, the European Commission is very interested in the programme, but we haven't landed on a precise number yet," a finance ministry source said. The interest rate is unlikely to be less than 3%5% since the loans would be junior to other debt on firms' balance sheets, another source familiar with the discussions said.

With maturities of at least seven years and subordinate to other creditors' claims, the loans would have the advantage of not counting as debt on balance sheets, freeing up resources for operations and investment, critical for an economic recovery.