Written by Convera’s Market Insights team
Traders ramp up BoE rate-cutting bets
George Vessey – Lead FX Strategist
UK headline inflation has fallen below the Bank of England’s (BoE) 2% target for the first time in three years. The 1.7% print for September was lower than the 1.9% forecast and 2.2% prior. Core inflation also eased to 3.2%, versus a 3.4% forecast. The negative knee jerk reaction of the pound is in line with falling 10-year gilt yields as the greater than expected drop in inflation opens the door to more BoE rate cuts this year.
The BoE has been more concerned about services inflation – giving it more prominence in the monetary policy decision-making process. Plus, Governor Bailey’s comments a few weeks back signalled the BoE could be more aggressive in its approach to cutting rates if inflation continued to fall. Therefore, the big surprise and likely nail in the coffin for more aggressive rate cuts is because services inflation was at 4.9% versus an estimated 5.2% and 5.6% prior – its biggest drop from one reading to another since 2020. The data overall confirms the disinflation trend in the UK is intact, coupled with Tuesday’s data showing the labour market is somewhat cooling. This supports the BoE’s ability to cut rates more aggressively, hence overnight index swaps are now pricing 30bps of easing in November versus 22bps before the CPI print, and a total of 44bps by year-end versus 37bps prior.
GBP/USD has plunged from $1.3077 to just shy of $1.2990 – the lowest level since mid-August. The 100-day moving average support level of $1.2954 is our next downside target beyond which the 200-week moving average at $1.2844 and the 200-day at $1.2794 come into focus.
Dollar demand cools as oil and yields slide
George Vessey – Lead FX Strategist
We highlighted yesterday that the drop in oil prices could cool demand for the US dollar and that’s what unfolded. The collapse in US 10-year bond yields was accompanied by a decline in breakeven inflation as a result of the 5% plunge in oil prices, which dragged the dollar index lower for the first time in twelve days.
Despite the somewhat weaker US data, we think the main driver of dollar weakness was the movement in oil prices. This is because the weakness appeared before the European open in advance of the macro data. And second, the six month correlation between EUR/USD and crude brent is the most negative since early 2000. So, oil was the central mover overnight, falling by as much as 5.6% on reports that Israel wont strike Iran’s oil facilities after all. This pushed down inflation expectations and therefore US Treasury yields, more so at the long end. But short-end yields also fell slightly, probably as a result of recent comments from Federal Reserve (Fed) policymakers signalling modest rate cuts from here.
We think that the overall positive trend for the US dollar will likely remain intact though if the macro data remains above water. Mainly because volatility and the dollar tend to rise in tandem going into the US election. This is especially the case now that a 50 basis point cut from the Fed next month is off the table.
Euro resistant to change
Boris Kovacevic – Global Macro Strategist
Yesterday’s news flow seemed to be forming a perfect storm for the euro to take advantage of. However, a plethora of upside surprises on the European macro front, de-escalation in the Middle East and falling oil prices were not enough to push EUR/USD above the $1.09 mark.
The EUR/USD rate differential has moved in the euros favor this week due to Treasury yields having been more impacted by lower oil prices. However, markets are gearing up for the third rate cut from the European Central bank this year on Thursday and have disregarded this otherwise solid backdrop this week. German sentiment halted a three-month descent in October on the back of hopes of lower interest rates ahead. Lending conditions continued to improve Iin Q3 according to the latest survey published by the ECB and Eurozone industrial production surprised to the upside, rising by the most since February 2023 (1.8%) in August.
This is a reminder that economic activity on the continent is not on a straight path down, even though broader positive catalysts are missing. The expected policy easing from the ECB remains front and center and is the reason for the euros underperformance versus currencies like the pound and yen in yesterday’s session. ECB president Christine Lagarde will give a speech today a day before the Governing Council meeting.
Sterling lower across the board after CPI report
Table: 7-day currency trends and trading ranges
Key global risk events
Calendar: October 14-18
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*The FX rates published are provided by Convera’s Market Insights team for research purposes only. The rates have a unique source and may not align to any live exchange rates quoted on other sites. They are not an indication of actual buy/sell rates, or a financial offer.
