Sterling firms on hopes of political stability in the UK

Important calendar events

• EUR: German and French Industrial Production, French Trade Balance, Italian Retail Sales, EU Retail Sales
• GBP: Halifax HPI, Monetary Policy Report Hearings
• USD: Average Hourly Earnings, Non-Farm Employment Change, Unemployment Rate, Fed Monetary Policy Report

USD

The dollar dipped on Thursday and the dollar index dropped to 105.1. US treasury yields remained steady as Thursday was the 4th of July Holiday in the US, with the US 10-year bond yielding 4.36%. 

One of the key factors that are driving the dollar right now is the US rate outlook. The US Federal Reserve kept interest rates unchanged at its policy meeting in June, within a target range of 5.25% to 5.50%, as expected. The US Federal Reserve has held interest rates steady since last July. 

Fed chair Jerome Powell’s dovish comments pressured the dollar this week. Powell stated that significant progress has been made on disinflation, hinting at a rate cut in September. Odds of a Fed rate cut in September rose above 70% after Fed Chair Jerome Powell’s dovish comments. Powell added that more evidence of disinflation is required before the Fed can shift to a more dovish policy. The uncertainty around Fed rate expectations will likely continue in the coming months causing volatility in Forex markets.  

On the data front, US service PMI data released on Wednesday were disappointing, putting pressure on the dollar. The ISM Services PMI index plunged to 48.8 in June from 52.3 in May, falling short of expectations of a 52.6 reading. A print below 50 denotes industry contraction and June’s low print indicates that the US service sector is shrinking at a more rapid pace.

Similarly, US manufacturing data on Monday showed that growth in the manufacturing sector is slowing down. The ISM Manufacturing PMI index dropped to 48.5 in June from 47.7 in May against expectations of 49.2. 

 JOLTS Job Openings data on Tuesday showed that the US economy added 8.14M new jobs in May, surpassing expectations of 7.96M and rising above April’s print of 7.92 M.

US CPI data for May showed that disinflation in the US is finally progressing. Monthly inflation remained the same in May, after rising by 0.3% in April and against expectations of a 0.1% rise. Headline inflation eased to 3.3% year-on-year in May from 3.4% in April, dropping below expectations of a 3.4% print. Core inflation, which excludes food and energy, rose by just 0.2% in May versus 0.3% anticipated. Annual Core CPI came in at 3.4% versus 3.6% expected, its lowest reading in three years.

Final GDP data showed that the US economy expanded by just 1.4% in the first quarter of the year, which was in line with expectations. Economic growth in the US is slowing down, falling considerably below the 3.4% expansion registered in Q4 of 2023. The US economy is expanding at an increasingly slower pace putting pressure on the dollar, as GDP data have shown expansion by 4.9% in the third quarter of 2023. 

Non-farm payrolls, or NFPs as they are called, are due on Friday, and they are the most highly anticipated fundamentals of the week. NFPs provide estimates on the number of jobs created in the US and are indicators of economic growth.

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EUR 

EUR/USD edged higher on Thursday, rising to the 1.081 level. If the EUR/USD pair declines, it may find support at 1.067, while resistance may be encountered near 1.085.

The Euro has been under pressure since political turmoil in France led to national elections. The first round of French national elections took place on June 30th. Marine Le Pen’s far-right Party won the first round of France's parliamentary elections on Sunday, securing 34% of the votes. The announcement of Le Pen’s win boosted the Euro early on Monday. Le Pen’s National Rally party, however, is unlikely to win with an outright majority required to form a government at the second round on July 7th. Concerns of political instability in France drove the Euro down later on Monday as markets had time to digest the news.

The ECB lowered its Main Refinancing Rate by 25 basis points to 4.25% in June. Eurozone inflation remains sticky and may slow down the pace of future rate cuts. ECB President Christine Lagarde has stated that the central bank’s policy will remain data-driven. 

Eurozone inflation eased to 2.5% in June from 2.6% in May putting pressure on the Euro. Core CPI, which excludes food and energy, however, rose by 2.9% on an annual basis in June against expectations of a 2.8% print. 

The Eurozone economy expanded by 0.3% in the first quarter of the year, which was in line with preliminary estimates. GDP data for Q4 of 2023 showed that the Euro area economy was stagnant with a GDP print of zero. The EU economy contracted by 0.1% in the third quarter of 2023 and barely expanded in the second quarter by 0.1%, after contracting by 0.1% in Q1. 

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GBP

GBP/USD remained firm on Thursday trading close to the 1.276 level. If the GBP/USD rate goes up, it may encounter resistance near 1.281, while support may be found near 1.260. 

We expect to see high volatility in the price of the Sterling on Thursday as the results of the British national elections on Wednesday are announced. Keir Starmer's center-left Labour Party is ahead of Prime Minister Rishi Sunak's Conservatives in the polls. Hopes of political stability are fuelled by expectations that the Labour Party will win the elections with a large majority supporting the sterling.

British service data released on Wednesday were optimistic, boosting the Sterling. The Final Services PMI index rose to 52.1 in June against initial expectations of 51.2 and a 51.2 print in May. A print above 50 denotes industry expansion indicating that the UK service sector is expanding at an increasing pace.  

British manufacturing data on Monday, however, were disappointing, putting pressure on the Sterling. Manufacturing PMI dropped to 50.9 in June from 51.5 in May against expectations of a 51.4 print. June’s reading, however, remained above the threshold of 50 which denotes industry expansion, indicating that the manufacturing sector continues to grow, but at a reduced pace.

The BOE kept interest rates steady at its latest monetary policy meeting in June. The BOE maintained its official rate at a 16-year high of 5.25. The BOE's Monetary Policy Committee voted 7-2 to keep rates on hold with two members voting to cut interest rates by 25 basis points.

Markets are pricing in a rate cut in September with approximately 70% probability, while a rate cut by November is fully priced in. Rate cut expectations have shifted from two rate cuts and a total of 50 basis points of rate cuts in 2024 to approximately 35 bp reduction in rates within the year. 

Price pressures in the UK are easing, raising the odds of a BOE rate cut by September. British headline inflation eased to 2.0% on an annual basis in May from 2.3% in April, which was in line with expectations. Annual Core CPI, which excludes food and energy, fell to 3.5% in May from 3.9% in April. British inflation dropped to the BOE’s target for the first time in nearly three years indicating that the BOE’s hawkish monetary policy has been paying off. 

The British economy is showing signs of improvement reducing the odds of a dovish pivot by the BOE. GDP data showed that the British economy expanded by 0.7% in the first quarter of the year against initial estimates of 0.6% growth. The UK slipped into recession last year as the economy contracted by 0.3% in the final quarter of 2023. 

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JPY

The dollar’s decline this week provided some much-needed breathing room for the Yen, which had been trading close to 38-year lows. USD/JPY dropped below the key 161.0 level in early trading on Thursday but pared some losses later in the day, rising to 161.2. If the USD/JPY pair declines, it may find support near 159.1. If the pair climbs, it may find resistance near the psychological level of 162.0.

BOJ officials have been attempting to boost the Yen, with BOE Governor Kazuo Ueda repeatedly warning traders against speculative short selling of the currency. Japanese finance minister Shunichi Suzuki stated on Tuesday that officials are watching currency markets with vigilance hinting at another intervention to support the Yen. 

Threats of an intervention, however, have been issued for many months now and no longer have a significant impact on markets. The BOJ intervened to support the Yen in 2022 and again this year in late April and early May, when USD/JPY surged above the 160.0 level. 

The Yen has been under pressure since the BOJ disappointed expectations of a hawkish shift at its latest meeting. The BOJ pivoted to a more hawkish policy at its meeting in March, ending its negative interest rate policy and raising the benchmark interest rate into the 0% - 0.1% range. The Yen continues to weaken as there is still a significant disparity between interest rates offered by the BOJ and those from other major central banks. 

BOJ Governor Kazuo Ueda has hinted that the central bank would ease its bond purchasing at the next meeting in July. BOJ officials, however, have not given any specifics for paring back their bond-buying program. Market expectations of a hawkish shift were disappointed after the BOJ policy meeting, putting pressure on the Yen. 

On the data front, inflation in Japan remains weak but rising. Headline inflation rose to 2.5% year-on-year in May from 2.2% in April. BOJ Core CPI rose to 2.1% on an annual basis in May from 1.8% in April, exceeding expectations of 1.9%. Rising inflation in Japan increases the odds of another BOJ rate hike later in the year. Tokyo Core CPI rose to 2.1% year-on-year in June from 1.9% in May against estimates of a 2.0% reading. 

Preliminary GDP data for Q1 of 2024 for Japan showed that the country has slipped into recession. Japan’s economy shrank by 0.5% in the first quarter of the year against expectations of a 0.3% drop. Japan’s economy registered a small expansion by 0.1% in the final quarter of 2023, showing that the country’s economy is shrinking. Recession concerns limit the odds of a BOJ hawkish pivot in the coming months.

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Written by:
Myrsini Giannouli

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