Yield outlook: German yields set to tick up as focus turns to European reopening and ECB rhetoric

We expect the reopening to come to the eurozone within the next three months. With higher inflation and inflation expectations, the ECB is likely to 'normalise' the pace of buying under its Pandemic Emergency Purchase Programme (PEPP) at its June meeting. That is probably also when the market will begin to discuss what QE purchases will look like in 2022. 

In other words, tapering is set to become a theme in Europe in coming months, indicating an upside risk to nominal and real interest rates, as we saw in the US in Q1 21. 

We expect 10Y German yields to increase by around 20bp to -0.1% over the next three months and to return to positive territory by the end of 2021.

We also expect US rates and yields to continue to tick up over the next 3-6 months as the US recovery gains speed, inflation expectations and real interest rates continue to rise and markets really begin to discuss the timing of Fed QE tapering. 

10Y US yields look set to hit 2.0% on a 6M horizon.

The markets are likely to reprice the Fed, pricing earlier and a larger number of policy rate hikes, putting further upward pressure on 5Y US yields. We expect no US rate hikes for the next two years but the market could well begin to speculate with a vengeance in the Fed starting to hike as early as H2 22.

The Fed will probably begin to sound slightly less dovish at the FOMC meeting in June or September 2021.