Interest rate rise expectations still controlling currency moves

By Lauren Buckner

Tuesday saw some positive momentum behind the Pound, which finally managed to break through the recent trading range with the Euro taking rates briefly to a 12 month high. However, the fragile nature of Sterling’s support above the recent trading range saw it drop back by over a cent on Wednesday following disappointing PMI data for the UK.

PMI releases show predictions on the direction of the manufacturing and service sectors of an economy which gives an insight in to the future health of that economy. Coming in at a 31 month low for output prices in both sectors for the UK, the risk of continued levels of high inflation dropped dramatically. Of course, with higher inflation levels interest rate rises will follow and this has been the wind in the Pound’s sails for much of the past 15 months. This shift in expectation saw the Pound lose ground across the board, dropping two cents against the US Dollar and slipping back in to the recent range with the Euro.

Interest rate predictions for the UK have been key to investor appetite for the Pound and of course the higher the appetite the more that currency will be worth. This has been keeping Sterling buoyant in recent months and driven these recent favourable buying levels. Interest rates in the UK now sit close to a 15 year high at 5.25% following the pattern of rate rises from the Bank of England since December 2021.

Expectations of interest rate rises to continue in the UK up to 6pc by the end of the year were priced in at a 50pc chance prior to the PMI release but have now dropped back to a third, this has undoubtedly pulled Sterling back.

Firm predictions remain of a further interest rate rise at the BofE’s September meeting, which would take interest rates to 5.5% in the UK. This has given Sterling some support here against the Euro. However, beyond September’s meeting the picture is far more uncertain and predictions of a pause in the rate hike cycle and a decline in GBP towards year end are rife.

The US dollar has continued to strengthen steadily as uncertainty increases as is the general pattern with currency markets – the US Dollar presents the safest asset on offer. This again highlights the nervousness about what happens next, it seems that the Pound is the one with the most to lose. Given this uncertainty those with currency requirements between now and year end may want to explore locking in rates in advance and/or forward contracts.