March 14, 2018 / 9:11 AM / in 9 months

Trade war threat drives demand for high-grade euro zone bonds

* Long-term market gauge of inflation drops below 1.70 pct

* German 10-year yields near one-month lows

* Dutch govt bond auctions swamped with demand

* Euro zone periphery govt bond yields tmsnrt.rs/2ii2Bqr

By Abhinav Ramnarayan

LONDON, March 14 (Reuters) - High-rated euro zone government bond yields stayed near recent lows on Tuesday after a high-profile sacking in the United States administration and a fresh batch of tariffs on Chinese goods overshadowed signals of global growth.

U.S. President Donald Trump fired Secretary of State Rex Tillerson, seen as a globalist by analysts, and soon afterwards sources told Reuters the United States is seeking to impose tariffs on up to $60 billion of Chinese imports.

This morning, European Central Bank chief Mario Draghi stated that the possible spillovers of the new trade measures announced by the US administration could hurt inflation. [bit.ly/2IpRfLd ]

A market gauge of long-term inflation expectations, the five-year five-year breakeven forward swap, was below 1.70 percent, dipping below that level on Tuesday for the first time this year.

“The bigger picture is we are currently seeing an environment of falling yields, and one of the key reasons is fears of an international trade war,” said DZ Bank analyst Sebastian Fellechner.

German 10-year government bond yields were close to a one-month low and 20 basis points below this year’s peak at 0.60 percent, as the spectre of trade wars puts doubts over a global recovery and the removal of ECB stimulus.

In addition, demand for a Dutch auction of 10-year bonds hit 18 billion euros at one stage, a strong result for the Netherlands debt agency. [bit.ly/2FJm2AY ]

The yield on Germany’s 30-year bonds also dropped to 1.27 percent ahead of an auction of 30-year bonds expected to raise 1.5 billion euros for the bloc’s largest economy.

Other central bankers are also due to speak later on Tuesday, including Vitor Constancio, Peter Praet and Francois Villeroy de Galhau, and investors will be looking for any signs as to which direction the bank will take in this environment.

“Given the expectation of an overall dovish tone and the bullish market reaction to the last ECB press conference, we think any surprisingly hawkish line has the potential to wrong-foot the market,” Mizuho analysts said in a note.

Bond yields dropped after last week’s ECB meeting, as the central bank signalled caution on inflation and protectionism, a message reinforced on Tuesday by Draghi.

Portugal will also sell bonds in auctions on Wednesday, and is set to offer a total of between one billion euros and 1.25 billion euros of 10-year and 27-year bonds, the state debt agency said.

Southern European government debt underperformed ahead of that sale, with yields rising 1-2 basis points.

Reporting by Abhinav Ramnarayan, Editing by William Maclean

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