UPDATE 2-Euro zone yields reduce fall as safe-haven bond bid slows

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by Reuters

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UPDATE 2-Euro zone yields reduce fall as safe-haven bond bid slows

March 20 (Reuters) - Euro zone government bond yields reversed some of their earlier sharp falls on Monday, as a rush into safe-haven assets slowed, and investors warmed up to the idea that the latest measures might have reduced the risks of a banking crisis in Europe.

UBS will pay 3 billion Swiss francs ($3.2 billion)for Credit Suisse, and the Swiss central bank (SNB) said it would supply substantial liquidity to the merged bank.

Meanwhile, top central banks joined forces in a coordinated action to enhance the provision of liquidity through their standing U.S. dollar swap line arrangements.

The bloc's banks borrowed just $5 million from the ECB on Monday via an enhanced dollar swap facility.

German government bond yields hit their lowest since mid-December, with the 10-year yield, the bloc's benchmark, dropping as much as 20 basis points (bps) at one stage to 1.923%. It was last down 2 bps at 2.11%.

Bond yields move inversely to prices.

"Investors' flight to quality might continue but more moderately after recent developments," said Massimiliano Maxia, a senior fixed-income strategist at Allianz Global Investors.

"The market will soon shift focus to the U.S. banking system ahead of this week's Fed policy meeting," he added.

Italy's 10-year yield dropped 6 bps to 4%, which pushed the spread between Italian and German 10-year yields to 186 bps, having earlier hit its widest level since early January at 205.6 bps.

"There is uncertainty about the rate outlook as we don't know the level of contagion among banks, and we don't know whether it will impact the real economy affecting the ECB policy path," said Antoine Bouvet, head of European rates strategy at ING.

"Central banks' measures are helpful for liquidity and for the banking system," he added.

Goldman Sachs lowered its 2023 economic growth forecast for the euro zone on Monday, citing ongoing stress in the global banking system.

Markets kept expectations for the next ECB moves around last week's lows, showing they were cautious about recent statements from the central bank.

President Christine Lagarde said on Monday financial market turbulence would not stand in the way of the ECB's fight against inflation as it has different tools to deal with both issues.

The August 2023 ECB euro short-term rate forward dropped as low as 3.0%, implying expectations for a deposit rate peak at 3.1% by summer. The forward was last at 3.1%.

The November 2023 forward had risen above 4% before fears of a banking crisis started hurting markets on March 10.

The ECB deposit rate is currently at 2.5%.

Short-end euro area yields continued to slide as markets pare back expectations for rate hikes.

Germany's two-year yield, which is most sensitive to changes in interest rate expectations, was down 8 bps at 2.353%, after earlier falling to its lowest since Dec. 13, 2022.

Italy's two-year yield dropped 15 bps to 2.897%, hitting its lowest since Jan. 19.

Meanwhile, ECB policymakers from Austria and Belgium pressed the case for more rate hikes over the weekend.

Market focus will shift to the Federal Reserve policy meeting, which ends on Wednesday.

Most analysts expect a 25 bps hike, but they reckon much will depend on whether a modicum of stability returns to financial markets, especially for regional banks.

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