STIR: ECB Set To Deliver First Hike On Thursday, BofA Like ERZ6/Z7 Flattener

We have previously noted that the most likely ECB response to the energy shock - for now - is a "measured adjustment" of policy. We read this as between 1-3x 25bp hikes this year (the first to be delivered on Thursday), with the eventual amount of tightening to be determined by incoming data.

• This range of outcomes combines the ECB's self-imposed need to have a reaction function that "does react" to preserve credibility, alongside the upside inflation risks stemming from the shock.
• While tightening financial conditions heighten the threshold for a hawkish ECB surprise this week, aggressive, front-loaded tightening risks a further dampening of economic growth.
• We flagged the Euribor December ‘27/December ’28 (ERZ7/Z8) spread as a potential vehicle to express a more protracted economic slowdown than the Bank currently envisages.
• Meanwhile, Bank of America note that the focus on Thursday will be on the new economic forecasts, which they “believe will likely show a bit less growth and more inflation near term but, crucially, a return to target still by end of 2028. This can however send a hawkish message, given that around three hikes will likely be incorporated in the baseline assumptions, suggesting two hikes is a reasonable base case, but leaving the door open to do more rather than less”. With that in mind and “considering the high sensitivity of the EUR front-end to oil prices and the uncertainty on the U.S.-Iran conflict”, they maintain a bearish bias in the front-end, with a Euribor December ‘26/’27 (ERZ6/Z7) flattener.