European government bond yields continued to rise Monday as investors adjust assumptions for inflation and re-price credit risk in a long-dormant market following last week's victory for President-elect Donald Trump.
Ten-year German government bond yields, which move inversely to prices, touched a nine-month high of 0.38% Monday, extending a two-week stretch of declines that has effectively doubled the benchmark European borrowing rate. U.K. government bonds, known as Gilts, also touched multi-month highs, with 10-year yields trading at a six-month high of 1.49%.
European bond investors have a series of concerns to re-calculate amid one of the most spectacular fixed income sell-offs in recent memory, which has global fixed income portfolios nursing one-week losses of more than $1.2 trillion amid a comprehensive change in inflation projections.
President-Elect Trump's plans to reform corporate and personal taxes could, if pushed through a now-friendly Congress controlled by Republican lawmakers, provide a $9.5 trillion stimulus to the world's biggest economy over the next 10 years.
However, the unprecedented fiscal expansion - about half of U.S. GDP - could also add more than $5.3 trillion to the country's already staggering $14 trillion in outstanding debt, according to the Committee for a Responsible Federal Budget.
But for Europe specifically, investors also need to assess the myriad differences in country risk and predict the appropriate response from the European Central Bank, which has been buying more than €80 billion in private and government debt each month in order to hold down yields and entice investment directly into the real economy.
Movements in Italy's government bonds are a case-in-point, as 10-year bond yields race past a 52-week high to trade at 2.2%.
With more than €2.2 trillion in outstanding debt, Italy is essentially the third-biggest bond market in the world, but its credit rating sits just at the cusp of investment grade, making it an at-times risky bet for fixed income investors.
The rise takes the extra yield, or spread, that investors demand to hold Italian government debt instead of triple-A rated bunds to 1.82% - a 20 basis point increase from Friday. Yields on Italy's debt maturing in 30 years, the most sensitive to interest rate movements, rose 20 basis points in Monday trading to 3.34%, the highest since July 2015.
Italy's current political and economic climate has only highlighted that risk, particularly now that citizens will head to the polls next month to vote on a Senate reform bill that could, if it fails to pass, topple the center-right government of Prime Minister Matteo Renzi.
ECB President Mario Draghi will address the flagship European Banking Congress later this week in Frankfurt, with investors keying on any suggestion of change in the Bank's current policy of record-low interest rates and billions in monthly asset purchases - the latter of which is set to end in March of next year.
With fresh memories of the so-called Bund tantrum, which added 86 basis points to benchmark German yields in the span of a few weeks in the spring of 2015, bond investors aren't likely to react patiently to any suggestion that its €80 billion backstop is about to disappear.
But the Bank itself has been under tremendous pressure, particularly from lawmakers in Germany, to back away from its unprecedented monetary policy stance and begin the process of rate normalisation in order to tame any potential rise in inflation before it takes hold of a fragile euro zone recovery.
As investors get a better understanding of Trump's economic ambitions, and navigate through key policy meetings from both the ECB and the U.S. Federal Reserve over the next four weeks, European bonds markets are likely to face even more volatility in the months ahead.