European Notes Post Eighth Weekly Gain; Region Enters Recession

By Gavin Finch

Nov. 15 (Bloomberg) -- European two-year notes posted an eighth weekly gain after a government report showed the region's economy slipped into its first recession in 15 years amid the worst financial crisis since the Great Depression.

The advance this past week drove the difference in yield between two- and 10-year German bonds to the widest in more than four years as shorter-dated notes, more sensitive to interest rates, outperformed. European Central Bank council member Athanasios Orphanides said yesterday he expects the bank to issue ``much more pessimistic'' growth forecasts next month.

``The vibrancy of the bond market has again been demonstrated by the short end,'' said Sean Maloney, a fixed- income strategist at Nomura International Plc in London. ``Central-bank speak continues to portray a heightened sense of urgency, with the language of late amongst the most blunt seen in recent memory.''

The yield on the German two-year note fell 5 basis points to 2.21 percent by 4 p.m. in London yesterday, taking its decline this week to 20 basis points. That's its lowest level since September 2005. The 4 percent security due September 2010 was at 103.13.

The yield on the 10-year German bund, Europe's benchmark government security, was at 3.66 percent. Yields move inversely to bond prices.

Gross domestic product in the 15 euro nations shrank 0.2 percent from the previous three months, when it also contracted 0.2 percent, the European Union's statistics office said yesterday. The two quarters of contraction mark the first recession since the euro's debut in 1999.

`In Recession'

Two-year notes led gains this week as traders bet the ECB will lower its main refinancing rate after government data showed Germany entered its worst recession in at least 12 years. The economies of Ireland and Italy shrank for two consecutive quarters, while Spain's economy contracted in the third quarter for the first time in 15 years. Growth in the Netherlands and Portugal stagnated.

The difference between two- and 10-year yields widened to 145 basis points, the most since October 2004, steepening the so-called yield curve, a chart of bonds of different maturities. The spread was 10 basis points on Sept. 1. Demand for shorter- dated debt outstripped that for longer-term securities as traders bet the ECB will cut its main rate to spur growth.

Returns on European bonds exceeded those on Treasuries since September, handing investors a 2.7 percent return, compared with 1.4 percent for their U.S. counterparts, according to Merrill Lynch & Co.'s EMU Direct and Treasury Master indexes.

To contact the reporters on this story: Gavin Finch in London at gfinch@bloomberg.net