Euro Zone Bonds Face Biggest Weekly Selloff Amid Middle East Tensions

Euro zone government bonds braced for their steepest weekly selloff as yields rose due to inflation fears triggered by the Middle East conflict disrupting energy supplies. German and Italian bond yields increased, with markets dismissing ECB rate cuts, anticipating a possible rate hike despite central bank officials' impending talks.

Euro zone government bonds are experiencing their sharpest weekly selloff in a year, driven by escalating investor anxiety over the inflationary shock linked to the expanding Middle East conflict that has disrupted energy supplies. On Thursday, German 10-year Bund yields climbed by an additional 3.7 basis points (bps) to 2.783%, with the weekly increase poised to be the largest since March 2025. When bond prices fall, yields rise.

Particularly sensitive to shifts in inflation expectations, two-year yields have surged nearly 17 bps this week to 2.175%. This rise comes as oil and gas prices soar, prompting traders to abandon any notions of the European Central Bank (ECB) cutting interest rates within the year given Europe's susceptibility to energy price shocks. Money markets, according to LSEG data, indicated a 30% chance of a rate hike by July.

The ECB is set to convene on March 18-19 to decide on monetary policy, with analysts expecting no changes to rates. Several central bank officials are scheduled to speak on Thursday, with investors closely monitoring their comments for any indications of the current situation influencing their assessments. ECB President Christine Lagarde will address global risk issues in Bologna later, and board member Luis de Guindos will join other officials in Brussels. Meanwhile, Italian 10-year yields increased nearly 5 bps to 3.476%, as Prime Minister Giorgia Meloni announced plans for Italy to send anti-aircraft aid to Gulf nations.

(With inputs from agencies.)