The selloff in European Union bonds may have become excessive, according to UBS, as widening spreads over German Bunds increasingly appear difficult to justify based on fundamentals.
The extra yield on 10-year EU bonds compared with German Bunds widened to around 59 basis points on October 5. That was up sharply from roughly 39 basis points at the beginning of September.
The move followed renewed weakness in French government bonds, which spilled over into the broader European Union debt market.
UBS Says EU Bond Spreads Look Too Wide
UBS strategists said EU bonds should continue to offer a yield premium over German Bunds because they are less liquid.
However, the bank argued that the current spread appears too large when judged purely on economic and financial fundamentals.
UBS expects the gap to narrow as market volatility eases and liquidity conditions improve.
German Bunds Regain Safe-Haven Demand
Part of the widening reflects stronger investor demand for German Bunds.
UBS described Bunds as the euro zone’s main risk-free asset, making them more attractive during periods of market uncertainty.
At the same time, investors have become increasingly concerned about future EU borrowing needs.
Those concerns include potential financing requirements for Ukraine and uncertainty surrounding negotiations over the European Union’s 2028-2034 Multiannual Financial Framework.
Fiscal Pressure Across Europe Raises Concerns
Investors are also paying closer attention to whether the EU’s largest member states will support a bigger common budget and increased joint borrowing.
That issue is becoming more important as several European governments face growing fiscal pressure at home.
France has attracted particular attention as investors continue to assess the country’s public finances and rising borrowing requirements.
EU Funding Risks Remain Limited in the Near Term
Despite those concerns, UBS believes near-term funding risks remain manageable.
The European Union’s borrowing target for 2026 remains unchanged at €180 billion.
The bloc raised €99.5 billion during the first half of the year, close to its revised €100 billion target. It plans to issue another €80 billion during the second half.
EU cash holdings stood at €121.8 billion at the end of June, almost twice the level recorded at the end of 2025.
UBS estimated that the cash position had declined to around €85 billion to €90 billion by October 5.
Ukraine Could Drive Future EU Borrowing
UBS identified Ukraine as the main medium-term risk to European Union debt issuance.
Existing EU programmes appear sufficient to cover Ukraine’s financing needs in 2026. However, the International Monetary Fund estimates that Ukraine could face a financing gap of between $30 billion and $35 billion in 2027.
Plans to seize or directly use frozen Russian assets continue to face major legal and political obstacles.
As a result, UBS believes any future financing shortfall could eventually fall back on EU institutions, increasing the likelihood of additional European Union borrowing from 2027 onward.
Ukraine Faces Significant Defence Funding Needs
For 2026, Ukrainian officials estimate a defence financing shortfall of around $27 billion.
Approximately $7 billion is expected to be covered domestically, leaving around $20 billion in external funding requirements.
The European Commission said on October 2 that €16.6 billion in defence support remained available, alongside another €17.1 billion in budget assistance.
EU Bond Issuance Will Continue Beyond 2026
UBS also stressed that EU debt issuance will not disappear when the NextGenerationEU recovery programme ends in 2026.
Existing programmes still represent roughly €330 billion in financing requirements.
That could translate into around €50 billion of annual EU bond issuance even if no additional borrowing programmes are introduced.
UBS expects the combined debt of the European Union, European Investment Bank and European Stability Mechanism to approach €1.6 trillion under existing mandates.
Over the longer term, that total could potentially rise toward €3 trillion to €3.5 trillion.
EU Bond Market Continues to Grow
The European Union bond market is also becoming deeper and more liquid.
Secondary-market trading volume reached €2.2 trillion during the first half of 2026, almost twice the level recorded a year earlier.
Average benchmark bond sizes have also increased to around €17 billion.
EU-based investors accounted for 56% of allocations during the first half of the year. UK investors represented 27%, while Asia-Pacific buyers accounted for 9%.
Bank treasuries increased their share of purchases to 31%, compared with 26% in the second half of 2025.
Hedge fund participation also nearly doubled to around 5%.
EU Bonds Still Lack Full Safe-Haven Status
Despite the market’s growth, UBS cautioned that permanent issuance does not automatically turn EU debt into a true safe-haven asset.
EU bonds still lack a dedicated futures contract and the deep hedging infrastructure available in major government bond markets.
The recent widening in spreads also suggests that investors continue to treat EU bonds as a spread product rather than a safe haven during periods of financial stress.
UBS nevertheless believes the latest selloff has gone too far and expects part of the widening versus German Bunds to reverse as market conditions stabilise.
