Key facts
- European bond markets are seeing a flight to safety, with investors dumping debt from riskier countries and favoring Germany.
- France's 10-year bond yield jumped 70 basis points in September, reaching its highest level since 2002.
- The spread between French and German 10-year bond yields widened to nearly 160 basis points last week.
- Italy's deficit is set to rise above the EU's 3% ceiling, with its debt-to-GDP ratio expected to be the highest in the bloc.
- Germany's 10-year Bund yield fell 17 basis points last week as investors sought safety.
- The euro may weaken to $1.10 due to the bond selloff, analysts say.
European bond markets are undergoing a significant shift as investors become more selective following a period of turmoil, dumping debt from countries deemed riskier and flocking to the perceived safety of German sovereign bonds.
France has become a focal point of this selloff, with its 10-year bond yield jumping 70 basis points in September to its highest level since 2002. This surge in yields increases borrowing costs and complicates fiscal management. Concerns about France's large budget deficit and the upcoming 2027 presidential election have fueled investor skepticism about the government's ability to implement announced austerity measures. The spread between French and German 10-year bond yields, a key indicator of France's risk premium, reached nearly 160 basis points last week, its widest since 2012, although it has seen some retreat and widening this week.
Italy is also under pressure, with investors worried about the sustainability of its public finances and potential contagion from the French selloff. Italy's 10-year bond yield gap over Germany widened to 130 basis points last week from 80 basis points a month prior. The country's deficit is projected to exceed the European Union's 3% ceiling, and its massive public debt is expected to start falling only in 2028, with its debt-to-GDP ratio projected to become the highest in the bloc at 138.6%. Political uncertainty ahead of next year's election is also a factor.
Other countries are also experiencing varied impacts. The Greek/German bond-yield spread has reached a two-year high, and Belgium's 10-year yield rose 49 basis points in September. Meanwhile, Britain and Spain have largely avoided the worst of the recent drama. The UK's 10-year gilt yield rose 36 basis points in September, about half the move seen in France, following the market turmoil of 2022. Spain's debt has benefited from strong economic growth, with its 10-year yield significantly lower than France's.
Germany has reasserted its status as Europe's safe haven, with its 10-year Bund yield falling 17 basis points last week as investors sought security. This move came despite earlier fears that increased spending on infrastructure and defense might erode its safe-haven appeal. Other low-debt European countries like the Netherlands, Switzerland, and Sweden also saw their yields fall.