By Dhara Ranasinghe

LONDON, (Reuters) – Euro zone bond yields rose to multi-year highs but then eased down on Monday after Francois Villeroy De Galhau, a European Central Bank policymaker, said that a weak Euro could threaten price stability within the currency bloc.

Villeroy indicated that the weakness of the euro on foreign currency markets might threaten the efforts by ECB to keep inflation under control.

The euro fell almost 9 percent since February. It also dropped to its lowest point since 2017, which accelerated inflation pressure in the Euro area. This is a significant increase on last year’s record 7.5%.

Villeroy’s comments instilled new volatility into the bond market, and prices rebounded as investors questioned the outlook for sovereign debt.

Germany’s 10 year Bund yield increased as much as 6.7% to just under 1%. It reversed previous falls. Later, it trimmed its gains to 0.947% at 1444 GMT. This was due to falling Treasury yields in the United States. [US/]

While bund yields reached a peak of 1% this month (roughly eight years ago), they dropped to as low 0.85% last Wednesday.

Also, the 10-year Italian bond yields were volatile in their last session. The yields of the 10-year Italian bond were up 1.5 bps to 2861% at their last session. This drove the spread over German Bunds, which are safer, to 190bps, as opposed to 189 bps on Friday.

Lyn Graham Taylor, senior Rabobank bonds strategist, linked Villeroy’s remarks to the rise in eurozone bonds. He said, “This is why spreads have also been widening.”

The money markets also reacted to investors raising rates and ratcheting up bets. There were approximately 95 bps worth ECB rate rises estimated by the year end. This would represent an equivalent to the ECB delivering three or more 25-bps interest rates hikes.

Last time the ECB raised rates was in 2011, and their depo rate currently stands at -0.50%.

Pablo Hernandez de Cos (ECB Policymaker) stated at the weekend that Pablo Hernandez de Cos was expecting the ECB to decide, during its next meeting, whether or not it would end July’s stimulus program and raise rates afterward.

Christian Lenk, DZ rate strategist said that there was a significant correction in bonds over the past week. He noted that inflation fears moved to the background while recession worries helped lower high rates.

This was a more short-term reaction. The trend for yields is still on the upside and the markets remain concerned about the possibility of a rate increase in July.

Investors are well-positioned to receive a 25-bps rate rise at the ECB’s July meeting, according to market pricing.

The key gauge for long-term Euro area inflation expectations rose by 2.231%. This was the lowest level since March, last week.

(Graphic: Bund yield back at 1%, https://fingfx.thomsonreuters.com/gfx/mkt/lgpdwemkbvo/Bund1605.png)