Eurozone core Harmonised Index of Consumer Prices rose 2.6% year on year in May, coming in above the 2.5% consensus expectation. The reading points to firmer underlying inflation pressures than analysts had pencilled in.
Core HICP strips out volatile items to provide a gauge of more persistent price dynamics. May’s outcome leaves the measure 0.1 percentage points higher than forecast, adding to the focus on the inflation backdrop across the single-currency bloc.
Stubborn Inflation and Implications for Rates and Currencies
The higher-than-expected core inflation figure for May suggests underlying price pressures in the Eurozone are proving stubborn. This challenges the narrative that the European Central Bank has a clear path to cutting interest rates further. We believe the market will have to price out at least one of the anticipated rate cuts for the second half of 2026.
Given this, we see an opportunity in short-term interest rate derivatives. Traders should consider selling September or December 2026 EURIBOR futures contracts, as their prices will likely fall if the market adjusts to a more hawkish ECB outlook. This strategy is reminiscent of the market repricing seen in early 2022 when sticky inflation data forced a rapid policy shift from central banks.
This change in rate expectations should provide a tailwind for the euro. A more hawkish ECB relative to other central banks, such as the Bank of England which is dealing with a weaker growth outlook, makes the euro more attractive. We are looking at using options to position for a move in the EUR/GBP exchange rate towards the 0.8800 level, a high not seen since the fourth quarter of 2025.
Market Impact: Equities and Volatility
For equity markets, this is a negative development, as higher rates for longer can hinder economic growth and compress company valuations. We anticipate European indices like the Euro Stoxx 50 will face headwinds in the coming weeks. Buying put options on the index offers a direct way to hedge or speculate on a potential downturn.
Finally, this inflation surprise injects uncertainty into the market, which typically leads to higher volatility. The VSTOXX index, which measures volatility for the Euro Stoxx 50, is currently at a relatively low 14.2. We view buying call options on the VSTOXX as a cost-effective way to protect against a broader market sell-off triggered by inflation fears.
