Investors await inflation and MPC meeting minutes before making any major moves

Publication date: 22 March 2011
Author: Duncan Higgins, CaxtonFX

Focus today will be firmly on the 9.30am UK headline inflation announcement, which is forecast to show a rise to 4.2% from last month’s 4.0%. It’s likely that the figure will need to exceed this forecast for any major sterling rally to be triggered as investors will want to wait for tomorrow’s MPC meeting minutes to be released before making any major moves. If we do see a significant increase in inflation, coupled with a more hawkish tone in the minutes, broad expectations of an August BoE rate rise may be brought forward.

Yesterday was characterised by dollar weakness, a theme seen continuing today unless speeches from Fed policymakers later in the session give investors something to get excited about. With the calendar quiet in the eurozone, the spotlight will be focused on the UK today, something we have not seen for many sessions.

STERLING/EURO:

The markets responded positively to the BoE’s quarterly bulletin, helping sterling climb up towards €1.15, but lacking the momentum to go through.

Despite the impact of the Bank’s bulletin, sterling’s upside was capped by positive comments from the ECB on an April rate rise. Indeed this upcoming event is likely to prevent sterling pushing sustainably higher in the short term.

Today, the UK’s headline inflation is expected to rise 4.2%, its fastest rate since October 2008. This should support a slight nudge higher for the pound but further upside will require an appreciably higher inflation figure. However, with the MPC minutes, the government Budget, and UK monthly retail sales all due later this week, there are still a number of risk events for sterling.

STERLING/US DOLLAR:

In the wake of improved global equities, higher crude oil prices and disappointing US homes data, dollar weakness remains in play, helping sterling breach the $1.63 barrier.

Very poor US home sales data (a near 10% monthly decline) weighed on the greenback yesterday, reminding investors of the fault lines in a broadly positive US economic recovery.

Today’s monthly headline UK inflation data is expected to rise, which should sustain the UK’s rally against the dollar, particularly if expectations for a near-term UK rate hike are rekindled. This pair has already climbed to a 14-month high this morning and the outlook remains bullish today barring any major profit-taking. It should be noted however, that this pair is continuing to track EUR/USD and the rally here could be running into resistance.

EURO/US DOLLAR:

With the single currency continuing to benefit from easing risk aversion and euro confidence, this pair has reached above $1.42 to a fresh 4-month high.

Trichet yesterday allayed any concerns that the ECB has changed course with regard to its April rate rise, stating that he “had nothing to add,” bringing into sharp focus the prospective interest rate differentials between the Fed and the ECB.

Strong global stocks and the gradual stabilisation of the Japanese nuclear situation ensured continued dollar-weakness, as investors showed increasing willingness to pursue riskier assets such as the euro.

STERLING/AUSTRALIAN DOLLAR:

Having moved further away from its highs yesterday, the pound is holding broadly unchanged against the aussie this morning, trading just below 1.62.

Tentative steps toward risk have lifted demand for higher yielding assets this week. Mirroring a strong showing from the FTSE and Dow Jones, the Nikkei 225 jumped up 4% overnight, boosting higher-yield assets and helping to offset the risk adverse troubles in Libya and the Middle East.

Risk sentiment is certainly improved with a weaker US dollar also supporting higher inflows into the aussie. However, despite the resilience of the Australian currency, sterling still looks comfortable above 1.61 with this pair now settling into a range.

STERLING/NEW ZEALAND DOLLAR:

Following some bullish comments from the IMF and solid overnight equities, the kiwi dollar is higher this morning with the price at 2.20.

The New Zealand dollar got a nudge higher after the International Monetary Fund said the nation’s central bank may need to raise interest rates “relatively quickly” once the economy begins to recover. Coupled with improved risk sentiment, the pound has drifted back to 2.20.

The prospect that the Bank of Japan could intervene in the markets again, is also buoying the kiwi. Further intervention would bode well for commodity currencies as it would encourage investors to use the yen as a funding currency for carry trades. However, the level of unrest in the Mideast and uncertainty in Japan is likely to cap the kiwi’s gains and we continue to see sterling’s risks skewed to the upside.

STERLING/CANADIAN DOLLAR:

There is little to report on this pair at present with higher oil prices offsetting the level of unrest to leave the rate unchanged around 1.5950.

Crude oil, Canada’s biggest export, is continuing to edge higher as military action in Libya steps up, raising concern that Middle Eastern oil supplies will remain disrupted. Meanwhile that level of unrest is keeping growth linked currencies, such as the CAD under pressure.

Disappointing figures from the US yesterday also weighed on the loonie, as they renewed concerns about the strength of the economic recovery. The pound is holding at 1.5950 this morning ahead of UK inflation data that may give the pound the edge.