German bunds strengthen as investors wary ahead of ECB policy decision

The German bunds strengthened Tuesday as investors remained cautious ahead of the European Central Bank monetary policy meeting, where there is a chance of another small deposit rate cut.

Also, weaker than expected Germany factory orders and steady Eurozone second-quarter gross domestic product (GDP) drove investors towards safe-haven buying.

The yield on the benchmark 10-year bond, which moves inversely to its price, fell 2 basis points to -0.065 percent, the yield on long-term 30-year note also tumbled 2 basis points to 0.505 percent and the yield on short-term 2-year bond slid 1/2 basis point to -0.643 percent by 09:20 GMT.

Germany’s July factory orders came in weaker than expected at 0.2 percent m/m, against market expectations of 0.5 percent rise, from down 0.3 percent in June.

Additionally, the third reading of the second-quarter Eurozone GDP growth estimate is reaffirmed once again at 0.3 percent q/q, same as its first two estimates and identical to what was predicted by the market consensus and proving that the downward revision to Finland's second-quarter GDP growth rate to zero q/q from 0.3 percent previously recorded was too small to have any effect.

The annual rate is also unchanged, at 1.6 percent y/y, and we continue to expect a shift down in gear in average quarterly GDP growth in the second half of 2016 from an average 0.4 percent per quarter in the first half, to an average 0.25 percent to 0.3 percent per quarter in the second half.

The second quarter GDP estimate comes a day ahead of the ECB’s September policy meeting, which is scheduled to take place on Thursday. Moreover, it is widely expected that the president Mario Draghi is unlikely to announce any rate cut and major stimulus measures. On the contrary, we foresee that there is a possibility that the central bank could opt for a small deposit rate cut given the weakness in the economies.

On Monday, Germany’s service PMI fell to 51.7 in August, lower than the consensus of 53.3, as compared to 53.3 in July. Additionally, composite PMI dipped to 53.3, against market expectations of 54.4, from 54.4 in the previous month.

Meanwhile, the German stock index DAX Index traded 0.37 percent higher at 10,712 by 09:20 GMT.