Energy prices boost inflation and interest rate expectations

Escalating energy prices, driven by heightened tensions in the Middle East and subsequent supply chain disruptions, are fueling inflation expectations and raising the prospect of further interest rate hikes in the U.S. For two consecutive weeks, energy prices have climbed, with U.S. forces striking Iran and Iran-aligned Houthi forces attacking oil tankers in the Red Sea. These attacks have disrupted key oil export routes, including the Caspian Pipeline Consortium's terminal, halting approximately 80% of Kazakhstan's oil exports.

While Brent crude briefly surpassed $100 per barrel, it saw a slight decline as Pakistan pursued renewed U.S.-Iran talks. However, the market appears more focused on potential supply disruptions than actual reductions. In the Eurozone, natural gas prices have risen significantly, reaching 63.58 euros per megawatt-hour. This surge is attributed to reduced liquefied natural gas supply from the Persian Gulf, increased competition for available cargoes with Asian nations, high electricity demand due to unusually hot weather, and warnings from Equinor, Europe's largest gas supplier, about potential shortfalls in reaching the 80% storage target before winter.

The increase in energy costs directly contributes to the Eurozone's energy inflation and industrial expenses. This inflationary pressure has heightened expectations for further interest rate increases by the U.S. Federal Reserve. The yield on two-year U.S. Treasury bonds, a key indicator of central bank policy expectations, reached a 17-month high. This shift in market sentiment has also strengthened the U.S. dollar, causing the euro to weaken by 0.5% against the dollar. A stronger dollar and higher interest rate expectations generally create headwinds for most other asset classes.