Traders ramp up bets on ECB hikes on energy shock, hammering bonds

By Harry Robertson

LONDON, March 11 (Reuters) - Euro zone government bond yields rose sharply on Wednesday, as traders increased bets that a sharp rise in energy prices due to the raging U.S.-Iran war will force the European Central Bank to raise interest rates this year.

The war risks pushing the central bank into raising interest rates sooner than previously thought, ECB Governing Council member Peter Kazimir told Bloomberg in an interview published on Wednesday.

The comments pushed money market traders to ramp up bets on ECB rate hikes, seeing an 80% chance of an increase by July and fully pricing in an increase by September. Traders had previously seen a chance of rate cuts before the war broke out.

Germany's two-year bond yield, which is sensitive to ECB rate expectations, was up 7 basis point (bp) at 2.345%. On Monday, it had hit its highest since August 2024, at 2.476%.

"I'd say a reaction by the ECB is potentially closer than many people think," Kazimir told Bloomberg. He also said, "For the time being, we need to stay calm."

Andrzej Szczepaniak, senior European economist at Nomura, said the move in ECB pricing was due to Kazimir's comments.

He added that surveys on inflation expectations will become extremely important in coming months as officials decide how to respond to an expected up-tick in inflation.

Germany's 10-year bond yield was up 4 bps at 2.901%, down from Monday's one-year high of 2.931%. Yields move inversely to prices.

Italian bonds continued to underperform Bunds, in part reflecting the country's greater reliance on oil and natural gas imports and its weaker public finances.

Italy's 10-year bond yield was up 11 bps at 3.633%, although it kept below Monday's 11-month high of 3.785%.

Yields shot higher on Monday as oil prices surged to their highest in almost four years, at close to $120 a barrel.

They have since fallen, along with energy prices, on hopes the war could be shorter than feared at the start of the week and that countries could release strategic petroleum reserves.

Brent crude oil, the global benchmark, fluctuated on Wednesday and was up 5% at $92.20 a barrel. It stood at just over $70 a barrel before the conflict broke out.

The International Energy Agency has proposed the largest release of oil reserves in its history to tame prices, the Wall Street Journal said on Tuesday, citing officials familiar with the matter.

Oil prices dropped roughly 11% on Tuesday after U.S. President Donald Trump told CBS News the war was "very complete".

"Markets are welcoming the thought of the Middle East conflict ending soon, but oil prices tell us that we're not there yet," said Michiel Tukker, senior European rates strategist at ING.

(Reporting by Harry Robertson; Editing by Alex Richardson and Clarence Fernandez)