The ECB Is About to Hike While Everyone Watches the Fed — What That Does to Your International ETF
- Markets price roughly a 90% probability that the ECB raises rates in September 2026, with about 40 basis points of tightening priced by year-end as of mid-August.
- The ECB's benchmark rate currently sits at 2.25%.
- Euro-area July inflation was confirmed slightly higher; UK headline inflation picked up in July while core held steady.
- ECB policymaker Olli Rehn said there are no clear signs of second-round effects yet.
- The euro traded near $1.158 in mid-August and the US dollar hit a three-month low on August 19.
- STOXX Europe 600 Q2 profit growth was expected around 23.4% year over year, the fastest in about four years.
North American investors have spent August staring at the Fed. Meanwhile, the more likely near-term policy move is happening in Frankfurt — and in the opposite direction.
Markets now assign roughly a nine-in-ten chance that the European Central Bank raises rates in September. The Fed, by contrast, is priced at about one-in-three for a hike and is broadly expected to hold. If both play out, you get a policy divergence that has not been in place for a while: Europe tightening, America waiting.
For anyone holding an international equity ETF, that is not an abstraction. It is a direct input into your returns.
Why the ECB is leaning hawkish
The mechanism is oil. Crude has held near $85–86 with the Strait of Hormuz situation unresolved and shipping through the route sharply reduced. Energy feeds European headline inflation quickly and visibly.
The nuance — and the reason this is not a done deal — is that the ECB distinguishes between a one-off energy shock and second-round effects, where higher energy costs work their way into wages and services prices. Rehn has said publicly that those second-round effects are not yet clearly visible. A central bank that hikes into an energy shock without second-round effects risks tightening into weakness.
That is the debate. Markets have taken a side. The ECB has not confirmed it.
What a hiking ECB does to your portfolio
Channel 1: the euro. All else equal, higher European rates support the euro against the US and Canadian dollars. The euro was already near $1.158 in mid-August, and the greenback slid to a three-month low this week. If you hold an unhedged international ETF in Canadian or US dollars, a stronger euro adds to your returns when translated back. If you hold a hedged version, you give that up.
This is the single most under-appreciated decision in international investing. Two funds tracking the same index, one hedged and one not, can differ by high single digits in a year on currency alone.
Channel 2: valuation. Higher rates raise the discount rate applied to European earnings. That is a headwind to multiples, especially for European growth and rate-sensitive names such as real estate and utilities.
Channel 3: earnings. Here Europe has genuinely good news. STOXX 600 aggregate profit growth for the second quarter was tracking around 23.4% year over year — the fastest in roughly four years — driven by energy and materials. The catch is circular: the same high oil price boosting energy earnings is the reason the ECB may hike.
Channel 4: banks. European banks are among the clearest beneficiaries of a higher policy rate, and they are a much larger share of European indexes than of the S&P 500.
The practical question: hedged or unhedged?
If you are a Canadian investor holding international developed-market exposure, you are choosing between hedged and unhedged versions of essentially the same portfolio.
Unhedged means you own the foreign stocks and the foreign currencies. Over long horizons currency effects tend to wash out, and unhedged funds are usually slightly cheaper. Most long-term, globally diversified investors are fine here.
Hedged removes currency movement so you own the equity return only. It costs a little more and it forfeits the diversification benefit that foreign currency can provide when the loonie falls.
The honest guidance: pick one and stay with it. Switching to hedged after a currency has already moved is performance-chasing with extra steps and, in a taxable account, a tax bill. If you want to think it through properly, our guide on choosing ETFs for a specific account covers where international exposure belongs.
What to watch
- The September ECB decision and, more importantly, President Lagarde's language on second-round effects.
- European inflation prints between now and then.
- Oil. If crude falls back, the hawkish case dissolves quickly.
- The euro. It will tell you in real time whether the market still believes the hike is coming.
Frequently asked questions
Will the ECB raise interest rates in September 2026?
Markets price roughly a 90% probability of an increase, with about 40 basis points of tightening priced by year-end as of mid-August. The ECB has not committed, and policymakers have noted that second-round inflation effects are not yet clearly visible.
Should I hedge currency in an international ETF?
There is no universally correct answer. Unhedged funds give you both the equity and currency return and are usually cheaper; hedged funds isolate the equity return at a small cost. The most important thing is choosing one approach and staying consistent rather than switching after a currency has already moved.
Do higher ECB rates hurt European stocks?
They raise the discount rate applied to future earnings, which pressures valuations — especially for growth, real estate and utilities. Banks generally benefit, and they are a larger share of European indexes than of US ones.
Primary sources
Data & disclaimer: This article is for educational purposes only and is not financial or investment advice. Figures reflect data available as of August 20, 2026, and conditions change — always confirm current pricing, rates and rules with the provider before you act. Written by Elizabeta Dimoska. See our editorial standards and disclosure.
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