Eurozone inflation, as measured by the Harmonised Index of Consumer Prices, rose 2.8% year on year in June. That compared with a 3% market expectation, leaving the outturn 0.2 percentage points below forecasts.
The June reading keeps annual price growth under 3%, following the recent run of data that has hovered around that level. The miss versus consensus may affect near-term rate expectations, although the release itself only reports the latest price change and the gap to forecasts.
ECB Policy Outlook Turns Dovish On Inflation Undershoot
The June inflation print coming in at 2.8% instead of the expected 3.0% reinforces our view that the European Central Bank will pivot more dovishly. With core inflation also ticking down to 3.0%, the pressure for another rate hike is now completely off the table. We believe the ECB’s focus will now shift entirely to the timing of the first rate cut.
We are already seeing the market reprice ECB expectations, with overnight index swaps now indicating a 75% chance of a rate cut by the September meeting. This is a significant jump from the 40% probability priced in just yesterday. The EUR/USD immediately dropped 0.6% on the news, showing clear bearish sentiment for the Euro.
Investment Strategies On Euro, Bonds, And Equities
Given this data, we should position for a weaker Euro over the next several weeks. Buying put options on the EUR/USD with August and September expiries looks attractive to capitalize on this expected downward trend. Selling call spreads above the 1.0900 level also presents a high-probability strategy to collect premium.
This environment is also very supportive for European bonds as yields are likely to fall further. We should increase our long positions in German Bund futures. Historically, bond markets rally for months leading into an official central bank cutting cycle, and we are at the beginning of that phase now.
For equities, lower borrowing costs are a tailwind, and we anticipate European indices will perform well. We will be looking to buy call options on the EURO STOXX 50 index. This strategy allows us to benefit from market upside while defining our risk in case of any unexpected economic weakness.
