FX.co ★ European Bond Sell-Off Deepens as Inflation Fuels Rate Bets

European government bonds extended their sell-off in early September as investors absorbed fresh inflation data that bolstered expectations for another ECB rate hike this month, with the ongoing Iran conflict continuing to exert upward pressure on prices. Germany’s 10-year Bund yield rose to 3.36%, its highest level since April 2011, while French 10-year yields climbed to their highest since November 2008. Italian and Spanish yields also approached three-year highs.

Eurozone inflation accelerated to 3.3% in August, the fastest pace since September 2023 and well above the ECB’s 2% target, driven primarily by surging energy costs. Money markets now price the ECB’s deposit rate at around 2.70% by December, implying an 80% probability of an additional increase following the widely anticipated September hike. ECB policymakers Olli Rehn and Martin Kocher cautioned that a prolonged conflict and mounting inflation risks could necessitate further tightening.

At the same time, hawkish remarks from Federal Reserve Chair Warsh led markets to assign a 66% likelihood to a September rate hike by the Fed.