Sebastian was born shortly after 8 AM the morning of January 20, 1554, Saint Sebastian's day and he took his name from that fact. Shortly after his birth a doctor, Fernando Abarca Maldonado, who had come to Portugal in the entourage of his mother and who probably had helped deliver him, cast his horoscope. Among other things, Maldonado predicted that Sebastian would be very attracted to women, marry and have many children, all of which proved to be utterly and completely wrong. He became heir to the throne on the death of his father in 1554 (two weeks before his birth), and succeeded to the throne three years later after the death of King João III, his grandfather. Since Sebastian was still an infant, the regency was handled first by his Spanish grandmother, Catarina of Spain, and then by his great uncle, Cardinal Enrique of Evora. This period saw continued Portuguese colonial expansion in Angola, Mozambique, and Malacca, as well as the annexation of Macau (in 1557).

Sebastian was a bright and lively boy, some say fragile, and the product of marriages within the same family for many generations. For example, he only had four great-grandparents (instead of the normal eight), three of whom were descendants of King João I, one of them through both parents. There were cases of madness in the family, perhaps the most famous example of which was that of his great-grandmother, Queen Joanna of Castile, "the Mad".