CAPITALDIGEST MARKET REVIEW, 24/7/2023

STERLING STEADY NEAR $1.31 WITH INFLATION DATA IN FOCUS The British pound hovered around $1.31 against the dollar on Monday ahead of a pivotal inflation report, while speculators raised their bullish positions on the currency to the highest since 2014, data showed on Friday.The pound has surged in June and July – last week hitting its highest since April 2022 at $1.3144 – as markets ratchet up expectations for interest rate rises as British inflation, the highest in the G7, makes slow progress in falling back towards target.Sterling was last little changed against the dollar at $1.3094.The Office for National Statistics releases its latest inflation data on Wednesday. Although analysts expect headline consumer prices to moderate, core inflation, which strips out volatile energy and food components, is expected to remain at an elevated 7.1%. Stubbornly high inflation prompted the Bank of England to raise its key interest rate by 50 basis points in June. Another 50 basis point rate hike has not been ruled out next month. Money market traders price around a 70% chance of a 50 basis point hike in August and around a 30% chance the BoE downshifts to a 25 basis point hike.In contrast, the Federal Reserve appears close to the end of its tightening cycle as inflation falls back towards 2%, while a slowing euro area economy has traders questioning how much further the European Central Bank has to go. “Sterling can react positively to interest rate rise speculation as long as the UK economy continues to be resilient,” said Rabobank’s head of FX strategy, Jane Foley. “But, if data suggest the risks of a hard landing are growing, sterling may be prevented from reacting positively to rate hike expectations.” Meanwhile, data from the Commodity Futures Trading Commission released on Friday showed speculators raised their net long position in the pound by 699 million dollars to 4.693 billion dollars in the week to last Tuesday, the largest such position since mid-2014. When investors hold a long position in an asset, they typically expect its value to increase. “The market has enlarged those long sterling positions on the perception that the BoE has a long way to go relative to other central banks,” Rabobank’s Foley said. DOLLAR DIPS, THEN BOUNCES ON STRONG CORE US RETAIL SALES The US dollar touched a 15-month low and then bounced against a basket of currencies today after core retail sales saw strong gains in June, as investors wait on the Federal Reserve’s interest rate decision next week. Headline US retail sales rose less than expected in June, with a 0.2% increase during the month. Data for May was also revised higher to show sales gaining 0.5% instead of 0.3% as previously reported. Core sales showed more resilience, however,Excluding automobiles, gasoline, building materials and food services, retail sales increased 0.6% in June. Data for May was revised slightly up to show core retail sales increasing 0.3% instead of the previously reported 0.2%. The softer-than-expected headline number suggests that “the Fed is making some progress,” said Bipan Rai, North American head of FX strategy at CIBC Capital Markets in Toronto. However, “you still did get a fairly strong control group number – that’s going to feed through to GDP and domestic demand. That’s still very much supportive of the fact that the Fed does need to hike rates again later this month,” Rai said. The dollar tumbled after consumer and producer price gains slowed in June, boosting expectations that the US central bank will stop hiking rates after a widely expected 25 basis-point increase at its July 25-26 meeting. Fed funds futures traders are pricing in an additional 32 basis points of tightening this year, with the benchmark rate expected to peak at 5.39% in November. Traders will also be watching inflation releases from regions including the eurozone, Britain and Japan this week for further clues about whether inflation is cooling globally. The dollar index was last up 0.06% on the day at 99.956, after earlier falling to 99.549, the lowest since April 2022. The euro dipped 0.02% to US$1.1226 after earlier hitting US$1.12760, the highest since February 2022. European Central Bank governing council member Klaas Knot said on Tuesday that the bank will look closely for signs of inflation cooling down in the coming months to avoid taking rate hikes too far. STERLING STAYS NEAR 15-MONTH TOP, A DAY AHEAD OF CPI DATA The pound held steady above US$1.30 (RM5.80) today, around its highest in 15 months, a day ahead of crucial British inflation data that will shape expectations for Bank of England policy, and hence the currency, in the coming months. Sterling was last at US$1.3090, up 0.12 per cent on the day, and was also a fraction stronger against the euro, which traded at 85.86 pence. The British currency reached as high as US$1.3144 last week, its highest since April 2022, in the wake of data that showed inflation is cooling in the United States. That caused markets to reduce bets of additional US rate hikes after this month’s US Federal Reserve meeting, and the dollar to soften across the board. Early last week the pound also firmed to as much as 85.05 pence per euro, its strongest since August 2022. British inflation has remained much higher than in the United States — and to a lesser degree the euro zone — and as a result markets expect more rate rises from the BoE, which surprised traders with a 50 basis point rate increase in June. Higher rates are typically a boost for a currency in the near term, though many analysts say the resulting hit to economic growth will weigh on the pound in the long run. “We are observing some positioning ahead of tomorrow’s key release of the UK inflation numbers,” said Francesco Pesole, FX strategist at ING, adding the “CPI data will make or break a 50bp August rate hike by the Bank of England.” “Today, the UK calendar is empty. We suspect EUR/GBP can remain broadly supported into tomorrow’s CPI,” Pesole added. DOLLAR STEADIES AFTER ONE-TWO PUNCH FROM AUSSIE, CHINESE YUAN The dollar held mostly steady against the euro and the yen on Thursday, but dropped against the Australian dollar after domestic job data beat expectations, and against the yuan, which received a lift from Chinese monetary authorities. The dollar is heading for its first weekly gain in nearly a month against a basket of currencies, having made most upward headway against the pound. The pound has lost 2.3% in value this week after data on Wednesday showed UK inflation finally appeared to be cooling. On Thursday, the Aussie dollar was the stand-out performer, rising by as much as 1.1% after employment beat expectations for a second consecutive month in June, leaving the door open for more rate hikes from the Reserve Bank of Australia. Meanwhile, the Chinese yuan rose after monetary authorities in Beijing relaxed a rule that allows companies to raise funds overseas, while China’s major state-owned banks were believed to have sold dollars on the offshore market. The dollar index traded roughly unchanged against a basket of currencies but stayed within sight of this week’s 15-month low, although individual currency reactions to data are likely to be volatile for now, according to Societe Generale (EPA:SOGN) Fx strategist Kit Juckes. It’s partly because we’re at that point in the cycle where we are debating who is going to pause and who is going to go and how close we are (to the peak), and so each piece of new information has an exaggerated impact on expectations for the global rate cycle in each individual country,” Juckes said. The Aussie dollar was last up 0.95% at $0.6835, while the New Zealand dollar received a boost in sympathy and rose 0.3% on the day to $0.6284. STERLING SET FOR SHARP ONE-WEEK DROP ON UK INFLATION COOLING The pound was headed for its biggest-one day fall against the dollar since March on Wednesday, mirroring the drop in British government bond yields – which plunged as prices surged – while London blue-chip stocks roared higher, led by interest-rate sensitive shares in homebuilders and landlords. Perhaps sterling’s tumble is no surprise, given that positioning data suggests speculators hold their most valuable bullish bet on sterling since 2014. Yet after data on Wednesday showed inflation slowed to 7.9% in June, below forecasts for a reading of 8.2% and down from May’s 8.7% rate, more traders may now be inclined to book profits. The prospect of a sustained rise in the Bank of England (BoE) base rate to above 6% is now almost completely off the table, and with it some of sterling’s shine. “There is likely to be a further repricing of expectations, in our view,” said ABN AMRO senior currency strategist Georgette Boele. “This will probably weigh on sterling this year, especially versus the dollar.” ABN AMRO forecasts sterling to weaken to $1.25 by year-end from around $1.29 currently. Investors have widely perceived the BoE as being behind the curve in the fight against inflation and have consistently banked on UK rates to keep climbing, even after those elsewhere, such as the United States, start to plateau. But even with a peak in rates at between 5.75-6.0%, as markets now reflect, Britain would still offer juicier returns than the United States, where rates are expected to rise to around 5.4% from roughly 5.125% currently. 0#FEDWATCH “The work is not done yet for the Bank of England. As both wage growth and services CPI inflation remain stronger than the Bank forecasted in May, and signs of a turning point in inflation are only tentative for now, interest rates will be raised further,” BNY Mellon Investment Management financial economist Sebastian Vismara said. The UK still has the highest inflation of the G7. In the United States, headline consumer price pressures are running at just 3%, while euro zone inflation is at 5%. Energy prices have fallen sharply, which has offered consumers and businesses some respite and another drop is due in July, when regulated household energy tariffs will fall. But mortgage rates are rising fast and grocery inflation is still in double digits – adding to a cost-of-living crisis for British households.