Europe stock and bond expectations are "severely divided": the bond market bets on three rate hikes to curb inflation, while the stock market still hopes for interest rate cuts to aid the economy.

European stock markets do not seem to have taken into account the expected significant interest rate hikes in the European bond market, which could lead to losses for investors who bet on the wrong outcome. Swap trading suggests that the European Central Bank will raise interest rates three times this year, reflecting the impact of the energy shock caused by the Iran war on the region. Despite emerging concerns about economic growth, it is widely believed that major central banks will strive to control inflation. However, the trend in the stock market aligns more with the trend of slowing economic growth, which could mean that interest rates will remain stable or even lead to rate cuts. "The market's reaction to the possibility of the European Central Bank raising or lowering interest rates is contradictory," said Karen Georges, stock fund manager at Paris Ecofi, describing the divergence in stock and bond trends. "We clearly believe that there will not be two rate hikes, let alone three, given the long-term impact of the crisis on economic activity. If economic growth is significantly affected, there may even be rate cuts before the end of the year." On March 27, the yield on German 10-year government bonds hit a 15-year high, with major investors such as BlackRock betting that yields will further decline. Despite the Stoxx Europe 600 Index just experiencing its worst month since June 2022, its valuation remains high. The estimated price-to-earnings ratio of the benchmark index constituents is around 15 times, far above the average level of the past 20 years. Market expectations for European corporate earnings also highlight a similar divergence: analysts predict a profit growth of 11% in 2027. To achieve this goal, companies need a favorable economic environment and favorable borrowing costs, not the aggressive interest rate hike expectations reflected in the bond market. Amlie Derambure, senior multi-asset portfolio manager at Paris-based Anaxis Investment Company, believes that the bond market's reaction to this conflict is intense, as if its inflation impact will be similar to the consequences of the Russo-Ukrainian war four years ago. She said, "I find that the price response in the fixed income market is particularly violent. The stock market is still uncertain about the economic consequences of this conflict, but the bond market has already begun to anticipate a situation similar to 2022." The risks faced by stocks are weak economic growth, disappointing profits, and the failure of loose monetary policies by central banks, which will put pressure on the still relatively high valuations. In the United States, the S&P 500 index is trying to end its fifth consecutive weekly decline, the longest since 2022. However, Wall Street's stock valuations remain high. Despite recent declines in stock prices, the cyclically-adjusted price-earnings ratio recently rose to over 38 times, reaching one of the highest levels in over 150 years. US investors also seem to have adapted to how to deal with geopolitical shocks. In the past few decades, this strategy has been effective, such as after the Gulf War and the Iraq War, even when oil prices soared, the stock market rose in the six months following the outbreak of conflict. Most recently, the outbreak of the Russo-Ukrainian war and the tariff dispute of "Liberation Day" in April 2025 confirmed this. "Recent history has made investors understand that geopolitical turmoil is temporary, as their impact on the economy is relatively limited," said George Nadda, portfolio manager at Altana Wealth in London. Like in Europe, US stock investors are still hopeful for profit growth. US sell-side stock analysts have been reluctant to adjust earnings expectations, and in fact, earnings per share expectations have been rising before the April earnings season. Investors remain optimistic about strong economic growth in the US before the conflict, thanks to fiscal stimulus and continued large-scale spending in artificial intelligence. Kevin Thozet, a member of the Carmignac Investment Committee in Paris, suggested that the gap between the fixed income market and the stock market could partially be attributed to differences in the fundamentals of the two. "As the name suggests, stock investors are optimistic, focusing on future returns, while bond investors are more concerned with protecting against inflation."