Published: 19/01/2023 By ECAPSterling held its recent gains against the Euro and Dollar following official data that showed a slight downturn in headline UK inflation. The pound approached an eight-month high against the greenback and regained over 1% against the Euro. Sterling’s recent rally comes as double-digit inflation figures, and a strong core reading, has prompted traders to raise bets for another 50-basis point interest rate hike by the Bank of England in February. For now, inflationary pressures have softened as per the December’s Consumer Price Index report. However, the extent of the decline in the inflation rate is not sufficient to infuse confidence among market participants that UK inflation is easing on a promising note. Therefore, investors should brace for a continuation of a further hawkish monetary policy by the bank of England.
The Euro is expected to open marginally lower this morning, continuing yesterday’s correction after rallying for the past three weeks. Nevertheless, markets may be underestimating planned rate hikes by the European Central Bank and investors should take more seriously its guidance to raise rates in multiples of 50-basis points, Dutch central bank chief Klaas Knot said this morning. The ECB flagged a steady pace of 50-basis point rates hikes in the months ahead, but investors have started to price out some of those moves, anticipating smaller increases and a lower peak in interest rates. Moreover, while a 50-basis point hike for February is fully priced in, markets are oscillating between 25 and 50 for March. Ultimately, part of the change is related to more benign rate hike expectations from the U.S. Federal Reserve and an anticipation that the ECB would follow its U.S. counterpart if its slowed or stopped with rate hikes.
The US dollar edged lower in early European trade this morning, continuing its recent selloff after weak US economic data hinted at an upcoming recession, providing more arguments for the Federal Reserve to slow down its aggressive interest rate hikes. The dollar has fallen by over 10% since peaking in late September, after a rally sparked by global turmoil and aggressive Fed tightening throughout much of 2022. This selling continued yesterday after US retail sales fell by the most in a year in December and manufacturing output recorded its biggest drop in nearly two years, stoking fears that the world's largest economy is headed for a recession. Furthermore, the market's scrutiny over the US economic outlook has grown exponentially since the ISM service report pointed to an imminent recession. Investors expect more pain for the dollar should fresh signs of a slowdown emerge now that the US data calendar is picking up again.