UPDATE 1-Euro zone bonds yields slip; Lagarde to join Eurogroup meeting

* Euro zone periphery govt bond yields tmsnrt.rs/2ii2Bqr (Updates throughout, adds chart)

By Elizabeth Howcroft

LONDON, May 15 (Reuters) – Core euro zone bond yields edged lower on Friday, largely disconnected from swings in global risk appetite, before a key meeting between euro area finance ministers.

The Eurogroup will meet on Friday afternoon via teleconference to discuss pan-European fiscal measures designed to mitigate the economic fallout from coronavirus. European Central Bank President Christine Lagarde will attend.

European member states have struggled to coordinate a debt-sharing recovery fund, as the crisis has exposed old political divides between southern European economies, such as Italy and Spain, that have been hardest hit by the virus and more stable countries such as Germany and the Netherlands.

But on Thursday, French Finance Minister Bruno Le Maire also said Germany’s position on an EU recovery fund had moved in the right direction, after a recent German constitutional court ruling gave the European Central Bank three months to explain the proportionality of its bond purchases.

“There remains a discernible risk that solvency concerns at the periphery will outweigh the liquidity reassurance being provided by the ECB and even more so now the German Constitutional Court has raised a question mark over the Bank’s policy flexibility going forward,” wrote Rabobank rates strategists in a note to clients.

“We remain doubtful as to the impact of this fund both owing to likely over-optimistic expectations of private-sector involvement … and the low probability that much of this funding will be on an unrequited basis in the form of grants rather than loans,” they said.

Christoph Rieger, head of rates and credit research at Commerzbank, said that there are probably some hopes for an agreement on other elements of the package on Friday, such as loans to protect workers and a business support fund.

Core government yields fell around one basis point on Friday morning, with the German 10-year government yield last little changed at -0.545%.

Riskier Italian government bond yields fell, with the Italian ten-year last down one basis point at 1.812% . Portuguese, Spanish and Greek ten-year government bond yields were down two to three bps each .

The spread between Italian and German ten-year government bond yields widened by eight bps, last at 235 bps.

The German economy plunged into a recession after suffering its worst quarterly contraction since the 2009 financial crisis, according to preliminary gross domestic product data, and a deeper slump is expected in the second quarter.

The Europe’s economy is expected to shrink by 11.3% between April and June, according to economists polled by Reuters.

Economists also expect the European Central Bank will ramp up bond buying next month.

Commerzbank’s Rieger said the correlation between bonds and equities has lessened, with bond yields not reacting as much to changes in risk appetite.

“I think this is limiting the downside in the risk-off days,” he said.

Ratings agency Fitch is due to review France and Austria on Friday for the first time since the coronavirus reached Europe.

“Fitch has by far been the most pro-active agency in terms of corona-related rating adjustments of EU sovereigns so far … Thus, at least Austria’s positive outlook appears at risk,” Commerzbank analysts wrote in a note to clients.

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