Eurozone bond yields hold steady ahead of ECB rate decision

Euro zone government bond yields were broadly steady on Tuesday as easing tensions between Israel and Iran helped calm market concerns over potential disruptions to global energy supplies and their impact on inflation.

Investors also turned their attention to the European Central Bank's (ECB) upcoming policy announcement on Thursday.

Market participants widely expect the central bank to raise interest rates for the first time in a year, with attention increasingly focused on the future path of monetary policy.

Middle East developments ease market concerns

Market sentiment improved after Iran and Israel indicated on Monday that they would halt military operations following an appeal from US President Donald Trump.

The move is seen as part of broader efforts to secure a peace agreement that could restore the flow of oil supplies through the Strait of Hormuz.

The prospect of reopening the strategic shipping route has helped ease concerns about energy supply disruptions.

Lower risks to energy markets could also reduce expectations for further aggressive monetary tightening by major central banks.

Against this backdrop, Germany's 10-year government bond yield, the benchmark for the euro zone, was little changed on the day at 3.051%.

ECB expected to deliver first rate increase in a year

The ECB is widely expected to raise its key deposit rate by 25 basis points to 2.25% at its meeting on Thursday.

While the anticipated increase has largely been priced into markets, investors remain focused on signals regarding future policy moves.

Analysts at Gavekal Research suggested that policymakers may continue to maintain a hawkish stance even after the expected rate increase.

"There is a clear case for retaining a hawkish bias after such a hike," Gavekal Research economists Cedric Gemehl and August Gudmundsson said in a note.

The economists argued that the ECB's primary objective of maintaining price stability could influence its response to recent inflationary pressures.

Markets price in further tightening

Money market futures currently imply 68 basis points of additional tightening by the end of the year.

That pricing suggests one more quarter-point rate increase after Thursday's expected move, along with a greater than 70% probability of a third hike.

Shorter-dated government bonds, which are typically more sensitive to changes in interest-rate expectations, reflected some moderation in market pricing.

Germany's two-year bond yield fell 2.5 basis points to 2.677% after reaching an almost three-week high of 2.734% on Monday.

Euro advances against dollar

In currency markets, the euro strengthened against the US dollar during European trading hours.

The EUR/USD pair advanced toward the 1.1550 level as investors assessed the outlook for ECB policy and the easing geopolitical backdrop.

With Thursday's ECB meeting approaching, investors are expected to closely monitor both the rate decision and any guidance from policymakers regarding the pace of future tightening.

The central bank's assessment of inflation risks, particularly in light of recent developments in energy markets, is likely to play a key role in shaping market expectations for the remainder of the year.