European stocks suffered from directional volatility on Thursday, as investors awaited a widely expected interest rate hike by the European Central Bank, while escalating tensions between the United States and Iran kept risk appetite at a minimum.

The pan-European STOXX 600 index opened virtually unchanged, after hitting its lowest level in more than three weeks in the previous session. London's FTSE 100 rose 0.2% after hitting its lowest point since late March on Wednesday. Germany's DAX slipped 0.1%, remaining near its lowest level in three weeks, while Italy's FTSE MIB gained 0.4%.

An interest rate hike by the European Central Bank is almost certain.

The European Central Bank is widely expected to raise its main deposit rate by 25 basis points to 2.25% when policymakers announce their decision at 3:15 PM Saudi time. If this occurs, it will mark the first rate hike since 2023, reflecting policymakers' determination to curb inflationary pressures despite a weakening growth outlook.

For investors, the prospect of tighter monetary policy at a time of rising energy prices presents a challenging backdrop. Higher borrowing costs threaten to put pressure on business investment and consumer spending, while higher fuel and utility prices risk eroding corporate profit margins, particularly in energy-intensive sectors.

This expectation also prompted markets to back away from bets on the European Central Bank cutting interest rates later this year, removing a key source of support for European stocks in recent months.

European government bond yields remained high pending the decision, further dampening demand for risky assets.

The key question is how far European Central Bank President Christine Lagarde will go during her press conference in supporting existing expectations of a fully priced further rate hike in September, said Sam Hill, head of market insights at Lloyds Bank.

It will not want to commit fully to that too early, but at the same time it will not seek to over-dissuade markets from their current expectations.

Fears of war still exist

Geopolitical concerns remained at the forefront after the United States and Iran exchanged airstrikes for the second day in a row. President Donald Trump warned that further military action could follow unless Tehran agrees to an immediate peace deal.

Renewed hostilities have dampened hopes for a diplomatic breakthrough between Washington and Tehran, reversing some of the optimism that had recently supported global markets. Investors remain wary that a prolonged conflict could disrupt energy supplies from the Middle East, potentially fueling a new wave of inflation at a time when central banks are still grappling with persistent price pressures.

On the individual stock front, shares of Hugo Boss AG NA ON (ETR:BOSSn) jumped nearly 8% after Frasers Group PLC (LON:FRAS) launched a €2 billion takeover bid for the German fashion brand.

Shares of Wizz Air Holdings PLC (LON:WIZZ) rose nearly 3% following the announcement of annual profits that exceeded expectations.

In contrast, SAP SE (ETR:SAPG) shares fell by nearly 3%.