Rates Spark: How a Ukraine peace deal could lower rates

At first glance, a potential end to the Russia-Ukraine conflict is not impacting euro rates, but beneath the surface, we see more movement. Gas futures for December 2026 have fallen sharply in recent days, reflecting hopes that energy prices could ease on the back of a deal. In response, long-term inflation expectations fell lower again, with the 5y5y inflation swap back to around 2.05%, close to the 2% target. With downside inflation risks still well on investors' minds, we see further downside potential for rates if gas prices ease further amid prospects of a deal.

Despite lower inflation expectations, nominal yields, however, have held their ground, pushing real rates to new highs. The 5y5y implied real rate is now at 1.1%, which is the highest level since 2022. A rising real rate is a sign of a better growth outlook and positive risk sentiment. But at the same time, Bund yields are still well below the swap rate, indicating the demand for safe assets remains strong, and risk sentiment is still fragile. We are therefore hesitant to see real rates rise much more from here. Also, even if a peace deal is struck, the tensions with Russia are unlikely to disappear overnight.