Traders Price Two ECB Hikes by Year-End as Bond Yields Stay Elevated

Euro zone government bond yields remained elevated on Wednesday, hovering near multi-year highs as traders positioned for a hawkish European Central Bank (ECB) meeting. Market pricing now reflects expectations of two rate hikes by the end of 2026, with the deposit rate projected to reach 3% by late 2027.

The ECB is widely expected to announce a second consecutive rate increase on Thursday, while reiterating its data-dependent approach. The decision comes against a backdrop of rising energy costs, with Brent crude rallying toward $100 a barrel and natural gas prices hitting a fresh 3-1/2-year high. Refinery margins, or crack spreads, have also widened sharply since late June, adding to inflationary pressures.

Germany's 10-year bond yield rose 2 basis points to 3.38%, after touching 3.3982% the previous day — its highest level since April 2011. The more policy-sensitive two-year yield climbed 2.5 basis points to 3.0%, following a peak of 3.0115% last week, the strongest since January 2024.

Traders are currently pricing the ECB's deposit rate at 2.73% by December, implying roughly a 90% probability of an additional hike beyond Thursday's expected move from the current 2.25%. Markets also see the deposit rate at 3.05% by September 2027.

A poll of 65 economists conducted on September 3 suggested the ECB would raise rates on Thursday for a second time, and then conclude what would be its shortest hiking campaign in 15 years.

In the periphery, Italy's 10-year government bond yield rose 2.5 basis points to 4.21%, with the yield spread over safe-haven German Bunds standing at 80.50 basis points.