Deteriorating global risk sentiment pushed the euro down against its G10 counterparts. The STOXX50 index plunged to a three-week low, while European yields inched higher. The yield on Germany's 10-year benchmark bund climbed to 2.68%, reaching a six-month high, and the 2s/10s curve steepened to -36bps, nearing a three-week high.
May's preliminary report showed Germany's headline consumer inflation rate rising to 2.4% year-on-year, matching market expectations. This marks the first inflation increase in five months, driven by higher prices in services and food, despite further declines in goods prices. The core inflation measure, excluding volatile food and energy components, remained steady at 3% year-on-year. Monthly momentum slowed more than anticipated, dropping to 0.1% from 0.5% in the previous report, but the EU-harmonized inflation rate unexpectedly increased to 2.8% year-on-year, above the 2.7% forecast. Although this rise in the harmonized measure is unlikely to prevent the ECB's expected rate cut next Thursday, it raises concerns about the central bank's flexibility for further easing in the second half of the year. The ECB's Governing Council appears divided, with most policymakers hesitant about a consecutive rate cut in July, while France's Villeroy suggested not ruling out such a move.
In the currency markets, EUR/GBP dropped as much as 0.3% to 0.84838, its lowest since August 2022, before recovering, as the Bank of England is increasingly expected to lag behind the ECB in cutting interest rates. EUR/CHF retreated from multi-month highs, and EUR/USD fell by over 0.4%, marking its largest one-day drop this month, though it remains supported at its 100-day SMA. As we approach the ECB's rate decision on June 6, sentiment towards the euro is turning more bearish. One-week EUR/USD risk reversals are now the most euro-negative in nearly four weeks.
