* Germany's two-year bond yield drops to record low
* U.S. equivalent sneaks up ahead of Fed minutes
* Gap between the two benchmarks widest in 17 years
* Spain, Germany sell new debt
* French centrist Bayrou pulls out of presidential election
(Updates with move in French bonds)
By John Geddie
LONDON, Feb 22 The gap between short-dated
German and U.S. government bond yields stood at its widest in
nearly 17 years on Wednesday as the former fell to record lows
and the latter nudged up in anticipation of rate increase
German two-year yields dropped to minus 0.92 percent
, pulling the country's 10-year yields to a five-week
low of 0.24 percent. Analysts said jitters around
upcoming French elections have stoked demand for an asset seen
as one of the safest in the euro zone.
Bottlenecks caused by the European Central Bank's
bond-buying programme and upcoming regulatory changes have
amplified the decline in the yields, which move inversely to
U.S two-year yields have meanwhile been sneaking
higher in recent days, reaching 1.24 percent -- within sight of
a seven-year high breached at the end of 2016 -- as investors
start to price in an outside chance the Federal Reserve will
raise interest rates next month.
The U.S. yield reached some 212 basis points above its
German equivalent, the biggest gap since early 2000.
Fed Chair Janet Yellen said last week a rate increase in the
world's largest economy would be considered at every policy
meeting. Wednesday's release of the minutes of the central
bank's last meeting are expected to provide more clues on the
Money markets suggest a roughly one-in-five chance the Fed
will raise rates next month, according to CME's FedWatch tool.
Some banks call it as high as a 40 percent chance.
Philadelphia Fed President Patrick Harker on Tuesday said he
would support a rate increase at the mid-March policy meeting as
long as inflation, output and other data continue to show a
growing U.S. economy.
"There are a host of special factors driving two-year German
bond yields lower and on the other side of the Atlantic we have
the Fed contemplating another hike," ING strategist Martin van
French bonds meanwhile received a boost from the latest
twists in the presidential race.
Centrist Francois Bayrou said on Wednesday he was offering
an alliance with independent candidate Emmanuel Macron, a move
that could give the former investment banker a much-needed boost
to reach the runoff in May's presidential vote.
The news helped ease concerns about the strong showing of
far-right, eurosceptic Marine Le Pen, who is expected to make it
through to the second round.
France's 10-year bond yield was down 7 basis points in late
trade at 1.01 percent, narrowing the gap over
German peers to 74 bps. The French/German yield spread had
widened to around 84 bps earlier this week -- its widest since
Elsewhere in the euro zone, Spain took more than 14 billion
euros of orders for the 5 billion euro bond, set to be priced
later on Wednesday, according to IFR.
Berlin sold around 500 million euros at auction in a top-up
of its 30-year bond.
For Reuters Live Markets blog on European and UK stock
markets see reuters://realtime/verb=Open/url=http://emea1.apps.cp.extranet.thomsonreuters.biz/cms/?pageId=livemarkets
(Additional reporting by Dhara Ranasinghe; Editing by Robin