Energy Price Shocks and ECB Policy Outlook
It is increasingly apparent that the impact of the stagflationary shock from US-Iran tensions will hit Europe harder than the US. With Brent crude futures for July delivery recently climbing to $94 per barrel, we see the European Central Bank being nudged to tighten policy earlier than markets expect. This external price pressure adds to domestic wage growth figures from Q1 2026 that were already running hot at 4.5%. We expect a pre-emptive hike of 25 basis points in the deposit rate at the June 11 meeting, a move for which interest rate markets are currently pricing in only a 40% probability. This presents an opportunity in short-term interest rate derivatives, such as Euribor futures, which appear undervalued. A hawkish surprise from the ECB would cause these contracts to reprice sharply.Market Volatility and Euro Strength
Given the increased uncertainty, we also anticipate a spike in volatility across Eurozone assets. We are considering buying volatility through options on the Euro Stoxx 50 index, as an unexpected rate hike would likely widen the daily trading ranges for equities. This situation is reminiscent of the market reaction to the energy crisis in 2022, where implied volatility remained elevated for several months. This policy divergence, with the ECB turning more hawkish while the US is less affected, should also provide a tailwind for the euro. We believe a hawkish statement on June 11 could push the EUR/USD pair toward the 1.10 level. We are therefore looking at near-term call options on the euro to position for this potential strength. While there is a likelihood of further rate increases in the second half of the year, the ECB will probably adopt a meeting-by-meeting approach. Our own 2026 growth forecast for the Eurozone is now moderated to 1.0%, reflecting the dual pressures of high energy costs and tighter credit conditions. This underlying economic weakness suggests that any strength in European assets may be short-lived, keeping volatility as a key theme.Start trading now — click here to create your real VT Markets account.
