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Euro zone government bond yields and the euro tumbled on Wednesday as German business activity contracted much more than expected, pushing traders to bet the ECB may soon pause its interest-rate hike campaign.
German business activity contracted at the fastest pace in over three years in August and much more than analysts expected, data showed on Wednesday, deepening the downturn in business activity far more than thought across the euro zone.
Traders scaled back their bets on a European Central Bank rate hike in September and now price in a roughly 40% chance of a 25 basis point move versus a more than 50% chance on Tuesday, suggesting they expect a pause in hikes at that meeting. EUESTECBF=ICAP
The euro EUR=EBS fell to more than two months lows against the dollar and to its lowest in a year versus sterling EURGBP=D3 , while European shares trimmed early gains.
In rate-sensitive government bond markets, borrowing costs fell sharply across the board.
Germany's 10-year yield, the benchmark for the euro area , dropped as much as 10 basis points to 2.546%, the lowest since August 10. DE10YT=RR
"The PMI suggests that it's back to the pre-summer narrative of lower rates," said Piet Christiansen, chief analyst at Danske Bank.
Christiansen added that euro zone inflation data due next week would still be key to the ECB's decision.
"There's many indicators that suggest that we could have had the last hike but if you just look at inflation, which is the (ECB's) key mandate... that is not a done deal," he added.
The ECB has lifted rates from deep in negative territory to 3.75% in just a year - the fastest pace on record.
Germany's 10-year yield had risen to 2.72%, the highest since March last week, driven by a surge in longer-dated U.S. Treasury yields to their highest in over a decade on the back of strong U.S. economic data and rising borrowing needs.
The Treasury yield surge has dragged borrowing costs across the world higher this month.
The two-year German bond yield DE2YT=RR , sensitive to interest rate expectations, dropped over 9 bps to 3%.
Italy's 10-year bond yield, a proxy for the bloc's riskier borrowers, was down 12 bps to 4.20%. IT10YT=RR
Hit by the scaling back of rate hike expectations, the euro EUR=EBS fell to as low as $1.0812 and 84.93 pence EURGBP=D3 .
