Euro rates remain sensitive to energy price moves, and markets still price European Central Bank rate rises in 2026. Lower energy costs would be expected to remove those hike expectations and push 2-year rates lower.
With falling energy prices, 10-year rates could stay near current levels if risk sentiment improves. This scenario assumes inflation pressure eases as energy falls.
If energy prices remain high for longer, the impact depends on the growth outlook. In a scenario where energy prices rise sharply and stay high for many months, the ECB could be pushed towards hiking, lifting the euro swap curve at first.
Higher energy costs and tighter policy could then weaken growth and risk sentiment. Markets could move to price looser policy after the initial inflation shock, pulling longer-dated rates lower.
Oil prices suggest the Middle East conflict is not yet close to ending. Equities have moved higher, but the VIX indicates risk sentiment remains fragile.
Our outlook for rates from here depends entirely on the path of energy prices. With European Central Bank hikes still priced in for this year, the market is highly sensitive to inflation data, especially after February 2026 core inflation came in stubbornly over 3%. This tense situation creates two very distinct paths for traders in the coming weeks.
A further drop in energy prices, perhaps sparked by a de-escalation in the Middle East, should remove the chance of an ECB hike and pull 2-year rates lower again. We saw this exact dynamic play out in the second half of 2025 when falling energy costs eased pressure on the central bank. This scenario would favor strategies that profit from falling short-term rates, such as buying 2-year swap receivers.
On the other hand, if energy prices stay high, with Brent crude holding near its current level of $95 per barrel, the picture becomes more complex. The immediate effect could be an ECB forced to hike, pushing up the entire swap curve as it fights rising inflation. But with recent Eurozone manufacturing PMIs already showing signs of weakness under the 50 mark, this would severely damage the growth outlook.
This risk of stagflation means markets would quickly start pricing in rate cuts further down the line, even as they digest a near-term hike. For traders, this points towards positioning for the yield curve to flatten, where longer-dated rates fall more than short-dated ones. The VIX index remains elevated, suggesting risk sentiment is fragile and supports this view of a slowing economy.
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