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European notes ready to extend gains on rate cuts

European bonds may advance, with two-year German notes poised to post their biggest monthly gain in six years, on expectations for lower interest rates to prevent the prospect of war causing a global recession.

"The short end has some potential," to gain further, said Anders Schelde, who helps manage 100 billion euros (US$92 billion) at Nordea Investment Management in Copenhagen. The European Central Bank "will ignore the risks to inflation" and cut its key interest rate again to bolster growth, he said.

The yield on the 3 3/4 percent German note due 2003 fell 3 basis points to 3.45 percent Friday, its lowest level since Sept. 6, 1999. Yields have fallen half a point so far this month. The 5 percent 10-year German bond yield advanced 3 basis points to 4.87 percent, while December bund futures fell 0.23 points to 108.

Investors expect central banks to follow last week's rate cuts with further reductions to bolster consumer confidence, after hijacked planes destroyed the World Trade center. US President George W. Bush told the US to "be ready" to fight Osama bin Laden, the main suspect for last week's attacks.

HSBC Bank Plc, Europe's biggest bank by market value, lowered its forecast for the benchmark rate for the 12 countries sharing the euro to 3 percent. That's after the ECB dropped its key rate 50 basis points by 3.75 percent on Monday, tracing a similar move by the US Federal Reserve.

The rate on the three-month euro futures contract expiring Oct. 15 fell 10 basis points to 3.55 percent and the rate on the December contract declined 8 basis points to 3.38 percent. The European three-month lending rate is 3.69 percent. Expectations the ECB will soon cut rates again were boosted after the bank said in its monthly report Thursday that terrorist attacks are "likely to weigh on confidence in the euro area and on the short-term outlook for economic growth."

Policy-makers announce their next interest-rate decision on Thursday. The Ifo research institute's index of executive confidence showed German executives were more pessimistic in August than in the previous month, the sixth decline in seven months. The index fell to 89.5 from 89.8 in July. Confidence is likely to erode further after the terrorist attacks in the US, analysts said.

"Some people think that we may slide into a recession also in Europe," said Ronny Beck, who helps manage about US$9.5 billion of fixed-income assets at Julius Baer Investments Ltd.
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