An October to remember for bruised global bond markets

By Yoruk Bahceli and Dhara Ranasinghe

LONDON (Reuters) -The mood music in some of the world's biggest bond markets has shifted in October as concerns about hefty borrowing and sticky inflation ebb, prompting a rush back to the likes of British, German and Japanese debt. 

UK government bonds, or gilts, battered earlier this year by fiscal concerns, have led the way. Ten and 30-year borrowing costs have fallen around 30 basis points each, set for their biggest monthly drops since late 2023, as their prices jumped.

Bond yields in Germany and even strife-laden France are set for their biggest monthly fall since April, when U.S. tariff turmoil bolstered safe-haven debt.

Japanese 30-year yields are set for the biggest monthly drop since August 2024 as fiscal concerns around Japan's new prime minister, Sanae Takaichi, ease.

A trend of high government borrowing and lofty debt levels is nonetheless expected to keep markets on their toes. Yields in some markets have edged off multi-month lows in recent days as trade tensions, which helped the bond rally, show signs of easing.

Still, October's moves suggest pressure is abating - a relief for Britain as a key budget looms, and France which is beset by political turbulence.

"It's been a bit of a surprise for markets everywhere, that inflation hasn't picked up as much as people would have thought a month or two ago and that's helped push bond yields down," said Mike Riddell, lead portfolio manager for strategic bond strategies at Fidelity International.

Inflation coming in lower than expected in both Britain and the U.S. has boosted bets on Bank of England rate cuts and cemented expectations for the Federal Reserve.

U.S. 10-year Treasury yields are set to end October with a third straight month of falls.

Mizuho multi-asset strategist Evelyne Gomez-Liechti said that on top of inflation, a weakening labour market and signs that finance minister Rachel Reeves might increase budgetary headroom and raise taxes had "created the perfect mix" for gilts.

"On the long-end, you could argue there's less of a supply pressure," she said, referring to Britain issuing less long-dated debt and the Bank of England's decision to skew its bond sales shorter.

Fidelity's Riddell said he still liked gilts but had trimmed bullish bets given recent strong price gains.

STILL REASONS FOR CAUTION, ANALYSTS SAY

In Japan, political uncertainty has declined. The appointment of new finance minister Satsuki Katayama has also helped reassure investor concerns around long-end issuance, said Mizuho's Gomez-Liechti.

Last week's robust auction stands out in a year that has seen a string of weak Japanese bond sales. Japan's 30-year bond yields are still up a hefty 80 bps this year.

Despite October's recovery, there is reason for caution, analysts said.

France's Socialists have threatened to topple the government if their budget conditions are not met, and Britain's budget on November 26 remains a big test for Reeves.

Surging German borrowing as fiscal stimulus ramps up and a Dutch pension fund reform that will dent demand for longer-dated bonds from next year are also expected to keep the pressure on European debt.

Ross Hutchison, head of euro zone market strategy at Zurich Insurance Group, said bonds were attractive, but risks remained as structural demand was lower than in the past and compensation for inflation risks also remained limited.

"You need a lengthy period of stability in yields before investors are comfortable increasing allocations, especially in long maturity paper."

(Reporting by Yoruk Bahceli and Dhara Ranasinghe; Editing by Alison Williams)