European bond yields hit multi-year highs on Middle East tensions

European bond markets sold off sharply on Tuesday as yields surged to multi-decade highs, driven by fears that Middle East supply disruptions will prolong inflationary pressures and force central banks to maintain elevated interest rates. Germany's 10-year bund yield reached 3.57% — its highest since 2009 — while France's 30-year yield hit 5.1766%, marking levels unseen since 2002, and UK 30-year gilts touched 5.94%, their highest since 1998.

Energy infrastructure targeted

Saudi Arabia closed its East-West Crude Oil Pipeline following attacks from Iraq, cutting off an alternative route to the Strait of Hormuz that carries 7 million barrels daily. The closure intensified concerns about global energy supplies already strained by the ongoing conflict and prompted expectations that the US Federal Reserve will maintain tight monetary policy to combat inflation.

Central bank warnings

The European Central Bank raised its three key policy rates by 25 basis points each as President Christine Lagarde warned that "headline inflation will remain well above the bank's 2% target for longer due to the ongoing Middle East conflict and the Russia-Ukraine war." The Bank of England is widely expected to maintain its policy rate this month before a projected rate hike in November.

Term premium rises

Larissa Fritz, senior fixed income strategist at ABN AMRO, told Anadolu that the war in Iran led to a new wave of interest and pushed up rate hike expectations. She noted that deteriorating fiscal conditions and rising bond supply also contributed to the increase in the term premium. "In previous hiking cycles, such as in 2022-23, higher short-rate expectations also pushed bond yields higher, but the impact was partly offset by a negative term premium — this time, however, this offset is not present, as the term premium is rising alongside short-rate expectations, allowing yields to climb to much higher levels," she said.