Franklin Templeton’s Zahn says new ECB tool unlikely for now

LONDON (Reuters) – The ECB is unlikely to introduce a new tool just yet to address strain in euro area bond markets, and may instead prefer to stress bond reinvestments, Franklin Templeton’s head of European fixed income David Zahn said on Wednesday.

The European Central Bank has called a rare, unscheduled meeting on Wednesday to discuss a blowout in borrowing costs for some euro zone nations.

That has fanned speculation the bank may be gearing to act to calm markets.

Zahn said the task of containing fragmentation risk, where some countries face markedly higher borrowing costs than others in the bloc, was challenging.

“They’ll (the ECB) talk about reinvestment of the PEPP, it’s the only thing that can talk about,” he said referring to bonds maturing from the pandemic-era stimulus scheme. “They can’t come up with a new programme in this short order.”

Zahn does not expect the selloff to extend much further.

He said he saw value in Spanish bonds and would also be interested in buying Italian bonds if 10-year yield spreads over Germany rise above 250 basis points. The spread is currently around 230 bps.

Zahn added that British government bonds could soon start outperforming peers, given that the Bank of England may be nearing a point where it has to slow interest rate hikes.

The BoE meets on Thursday and is expected to deliver its fifth straight rate increase. It was the first major central bank to start hiking rate in December but has now come up against clear signs of economic slowdown.

“We could see bonds in the UK actually start to outperform some of the other bond markets. So we’re looking at whether or not to buy gilts, but not quite yet,” Zahn said.

(Reporting by Dhara Ranasinghe; editing by Sujata Rao)