By Andrew MacAskill Oct. 22 (Bloomberg) -- European government bonds advanced for a fifth day as concern the global economy is headed for a recession sent stock markets around the world tumbling, fueling investor demand for the safest assets. The gains pushed the yield on the German two-year note to the lowest level since January 2006 as the MSCI World Index of shares retreated 5.1 percent. Bank of England Governor Mervyn King said Britain's worst banking crisis since World War I is likely to push Europe's second-largest economy into a recession, and Italian retail sales slumped. ``The market is being driven by the equity meltdown,'' said David Schnautz, a fixed-income strategist in Frankfurt at Commerzbank AG, Germany's second-biggest lender. ``We are seeing the typical flight to quality.'' The yield on the German two-year note slipped 9 basis points to 2.80 percent by 4:37 p.m. in London. The price of the 4 percent security due September 2010 rose 0.15, or 1.5 euros per 1,000-euro ($1,284) face amount, to 102.15. The yield on the 10-year German bund, Europe benchmark government security, dropped 15 basis points to 3.79 percent. Yields move inversely to bond prices. Equities fell on concern the deepening economic slump will erode corporate profits. The euro slipped below $1.28 for the first time since November 2006. ``This is not so much a safe-haven panic trade,'' said Sean Maloney, a London-based fixed-income strategist for Nomura International Plc. ``People are now focusing more on a deteriorating macro-economic scenario leaving the short-end well supported.'' Italian Woes Sales at Italian retailers fell an annual 1.3 percent in August, the Rome-based Statistics Institute said today. The third-largest economy in the euro region probably entered a recession in the second half of the year, the International Monetary Fund and European Central Bank board member Mario Draghi indicated yesterday. The credit-market collapse showed signs of affecting economies outside of the U.S. and Europe. Argentina's planned seizure of $29 billion of private pension fund assets fueled concern the nation is headed for its second default in a decade. European bonds have outperformed Treasuries this month on bets the ECB will lower interest rates by at least a half-point. European government securities returned 1.4 percent, compared with 0.79 percent for comparable U.S. debt, according to Merrill Lynch & Co.'s EMU Direct and Treasury Master indexes. Interest-Rate Bets Investors raised wagers the ECB will lower borrowing costs, with the implied yield on the three-month March Euribor futures contract slipping 3 basis points today, to 3.34 percent. Frankfurt-based ECB policy makers cut the main refinancing rate a half-point to 3.75 percent on Oct. 8 as part of a coordinated move by major central banks to spur bank lending. The difference in yield between two- and 10-year German notes narrowed 2 basis points to 99 basis points, from 40 basis points a month ago. A steeper so-called yield curve, which compares yields of different maturities, indicates investors expect further rate cuts to boost the economy. The yield spread could widen to 200 basis points by April, according to Russell Jones, head of global fixed-income and currency research in London at RBC Capital Markets. ``The ECB will cut rates aggressively and we can expect to see it widen to near where it was at the last recession,'' he said. Germany sold 4.06 billion euros ($5.22 billion) in additional 4 percent notes due 2013. Demand exceeded the amount offered by 1.9 times, compared with 1.2 times at the previous sale of the securities in September. ``It was a very good auction by recent standards, with a strong bid-to-cover relative to what we have had this year,'' Maloney said. ``The severe dislocations that affected the auctions, particularly in September, appear to be behind us.'' To contact the reporter on this story: Andrew MacAskill in London at amacaskill@bloomberg.net

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