Traders say Euribor and other money market instruments discount a 25-30 percent chance at most of a rise by around June, but they do not view this as a serious bet since many see the ECB eager to ensure recovery is well under way before lifting the rate off its current historic low of 2 percent.
"Roughly, we're discounting one rate hike this year and it's coming around fourth quarter or September," said David Keeble, strategist at UBM. "The market is fairly valued but the risk is more that the US recovery picks up and we start to see (eurozone) confidence building quite quickly."
"If we get something around July then the market will be in for a very significant shock because then it will have to move up all of the rate hike pricings subsequently by about three months and it will signal that the ECB is more concerned about the build-up in money supply."
Comments this week from ECB officials served as a reminder that it is eager to raise rates at the earliest possible opportunity.
ECB Governing Council member Christian Noyer said in an interview published on Tuesday that global monetary policy needs to be tightened to avoid a potential build-up in inflationary pressures.
This came after ECB Vice President Lucas Papademos said money and credit growth show a growing risk to price stability in the eurozone.
Euribor futures prices eased in the wake of the comments, but there was no dramatic fall, suggesting investors saw this as a reminder of the ECB's bias to hike, not a warning of an imminent rise.
"They need to see three to six months of good economic numbers coming through," said a Euribor trader in London.
The narrow price differentials between some Euribor futures contracts this year and early 2006 also suggest the market has not quite settled on the exact kick-off date for the ECB's next rate hike cycle.
"From the money market, it looks like a third or fourth quarter hike, but certainly the spreads between the futures contracts are too narrow," said the trader.
"You would expect March and June to be trading a little higher, but September, December and March 2006 to be lower so that the spreads widen with the forecast of hikes coming later this year."
Data on Tuesday underscored the dilemma the ECB faces. Euro zone economic growth slowed to a trickle in the last quarter of 2004, as the German, Italian and Dutch economies defied predictions and contracted.
But, investor confidence in Germany improved by more than expected in February, the ZEW research institute said, and German Economy Minister Wolfgang Clement painted a bright picture for the future, saying indications were that recovery would accelerate this year.
"The risk is still more for a more early rate hike than a later one - earlier than the market currently discounts." said Bob Maes, fixed income strategist at KBC in Brussels. "The ECB is ready but the circumstances are not right at the moment."
"If it would be earlier then I would think more about June.... The ECB would certainly prepare the market and we still have to see if the data does indeed improve - we don't know, and they also don't know, if they can do it or not."