Sterling hit a two-year high against currencies of major trading partners and a 15-month peak versus the euro, buoyed by expectations the Bank of England would raise interest rates in November, but may be due for a correction if it does not manage to break 1.9040 against the dollar. Recent data showing a record rise in mortgage lending and the BoE minutes showing policymakers are getting more worried about inflation expectations reinforced the rate hike view in a market increasingly driven by yield differentials.
The pound rose to 103.50 on a trade weighted basis, its highest since August 2004. Against the euro it rose to 67.01 pence, its highest since June 2005 and up a quarter percent on the day.Sterling hit a two-week high of $1.9040. The dollar meanwhile hovered around two-week lows against the yen and the euro on Friday after data showed more signs of a slowdown in the U.S. economy, keeping expectations high that interest rates will stay on hold. The Philadelphia Federal Reserve's business activity survey for September showed its first negative reading in over three years, indicating a significant decline in manufacturing in the mid-Atlantic region. The sharp drop in the index provided the first clear sign of the slowing housing market impacting the broader economy. We reiterate that US growth related data would come back into the forefront. Two reasons explain this. First, the market already has the view that the Fed will not hike further. Easing oil prices and base effects of Hurricane Katrina falling out of inflation numbers soon mean that inflation pressures will come off sharply. Hence, with the market expecting the next move to be a cut, the question is when would the next rate cut be. In this sense, growth related data would be crucial. Secondly, the market will look towards next week’s data releases (housing sales, consumer confidence, durable goods orders and the Chicago PMI) to understand if the Philly Fed survey was an outlier or whether it does signal a clear turning point for the economy. Analysts at BNP Paribas expect upcoming US data releases to increase the probability of surprise for the Fed (as well as the market). In such an event, it is likely that we see a change in the way the curve would trade. While weak growth data has, over recent weeks, kept the curve in inversion, the data could well prompt a steepening as rate expectations are adjusted. The central bank kept overnight rates unchanged at 5.25 percent for the second straight time at a policy meeting earlier this week. While the dollar has hung on to its rate advantage against the euro and the yen, the end to the Fed's two-year tightening cycle has coincided with a rise in key rates elsewhere. Rates in the euro zone are at 3 percent, and are expected to climb as high as 4 percent next year, while the Bank of England last month raised to 4.75 percent. Still, some traders said that the dollar, which has fallen from a five-month high of 118.29 yen hit earlier in the week, was finding support from domestic importers before they close their books for the half-year at the end of the month. The euro was at $1.2795 near a two-week high after rising 0.8 percent a day earlier. The single currency inched up to 148.85 yen. The yen has climbed against the euro this week, pulling further away from a record low of 150.73 yen hit late last month.
Traders said that the market's next focus will be on the final reading of U.S. economic growth in the second quarter due next week, which could confirm a slowdown.
Source: Financial Mirror
