Updates prices

By Stefano Rebaudo

July 22 (Reuters) - German two-year borrowing costs reached a fresh two-year high and French longer-dated yields rose above 4% for the first time since June 2009 as the Iran conflict escalated, supporting expectations for higher inflation and policy rates.

Oil prices rose to a near six-week high on Wednesday, with Brent crude surpassing $95 a barrel, while U.S. President Donald Trump said the U.S. would "bomb and destroy one bridge or power plant" any time Iran targets a ship in the Strait of Hormuz.

German two-year yields <DE2YT=RR>, which are more sensitive to expectations for policy rates, rose 4.5 basis points (bps) to 2.8425%, their highest since July 2024.

Money markets indicated the European Central Bank deposit rate would be at 2.70% in December EURESTECBM4X5=ICAP and 2.78% in February 2027, compared with 2.25% now. They also fully priced a rate hike in September.

Market participants continued to expect the ECB to leave interest rates unchanged at its policy meeting later this week.

"For the European Central Bank, after delivering a 25 basis point rate hike in June, the key message is rarely just ‘one and done’; across its published scenarios, inflation remains above target," said James Bilson, global fixed income strategist at Schroders.

"However, the market repricing has already been substantial and with no cuts now priced in over the next two years, despite the uninspiring growth outlook, this leaves us more constructive on euro zone duration."

Being constructive on duration means favouring exposure to longer-dated bonds on the expectation that yields will decline.

Germany's 10-year government bond yield <DE10YT=RR>, the euro area's benchmark, was up 2 bps at 3.18%. It reached 3.20% in mid-May, its highest level since May 2011.

FRENCH AND ITALIAN YIELDS AT 4%

Long-dated borrowing costs in France and Italy are very close to 4%.

Italy's 10-year bond yield IT10YT=RR rose 3.5 basis points to 4.03%, after climbing above the 4% threshold on Tuesday for the first time since March 30.

The spread between Italian government bonds and Bunds <DE10IT10=RR> was at 82 bps, its highest level since early May. It was at 63 bps in February before the Iran war started and hit 103.62 in late March, the highest level since June 2025.

France's 10-year yields FR10YT=RR reached 4% for the first time since June 2009 and were last up 2.5 bps at 3.99%.

Yields on UK gilts stayed close to two-month highs after data showed inflation cooled more than expected. However, the easing in consumer price pressures is likely to provide only short-lived relief for new Prime Minister Andy Burnham as he tries to bring down living costs.

Britain's fiscal trajectory is in the spotlight with the yield gap of its government bonds versus Bunds at 187 bps DE10GB10=RR.

UK 10-year gilt yields GB10YT=RR hit a fresh two-month high at 5.0639%, up 3.5 bps.