Euro zone bond prices rally for longest since February

Euro zone government bond prices rose for a fifth consecutive day, driven by cooling inflation expectations and a drop in oil prices following a US-Iran peace deal agreement.

Euro zone government bond prices rose for a fifth day on Tuesday, in their longest rally since February, as cooling market expectations for inflation met caution ahead of Kevin Warsh's ‌first meeting as head of the Federal Reserve.

The oil price has fallen to below $80 a barrel, a drop of 10% since Monday after the United States and Iran said they had reached an agreement on the framework for a peace deal, to be signed in ‌Geneva on Friday. As a result, bond yields - which move inversely to price - have tumbled and stocks have soared along with ‌rate-sensitive assets like gold.

Benchmark German 10-year yields fell 2 basis points to 2.921%, as prices rose for the longest since mid-February, prior to the start of the Iran war. Yields are still nearly 30 bps higher than in late February, but have retreated sharply from 15-year highs a month ago at 3.2%.

Two-year yields, which ⁠tend to ​react more to shifts in expectations ⁠for inflation and rates, have retreated more slowly. Two-year Schatz yields, which on Wednesday were down 2.6 bps at 2.56%, are 55 bps higher than at the ⁠start of the war. ONE MORE ECB HIKE EXPECTED

Investors expect one more rate hike from the European Central Bank this year, after last Thursday's ​quarter-point increase. A week ago, a total of three hikes were priced in for 2026, which most market watchers believed ⁠would have been excessive. ECB chief economist Philip Lane said in an interview at the Reuters NEXT Europe conference in London on Tuesday that the central bank would remain "proactive" ⁠in ​its fight against high inflation.

Deutsche Bank strategist Jim Reid noted the ECB's continued concerns. "So even with oil prices coming down again, markets are still fully pricing in a second ECB hike before the end of the year, following on from last week’s ⁠move," he said.

May inflation data for the wider euro zone is due on Wednesday. Economists polled by Reuters expect the core ⁠rate, which excludes food, energy, alcohol ⁠and tobacco, to have increased by 2.5% last month, matching the rise in April. Italian 10-year yields were down 1 basis point on the day at 2.74%, around their lowest in three months, ‌which kept their premium ‌over German Bund yields just below 70 bps .