Sterling's Rally Halted as Oil Prices Surge and US Inflation Rises
Sterling's recent rally came to an end on Thursday as it pulled back from its highest level since August 29, extending earlier gains. The pound was down 0.33% at 1.3500 and the euro also fell by 0.25% at 1.1601.
The surge in oil prices above $105 a barrel due to the Middle East conflict added to inflation risks, complicating the Bank of England's policy outlook. Despite this, investors continued to price in further BoE rate hikes, with expectations of at least two increases by March next year.
The European Central Bank raised its three benchmark rates by 25 basis points on Thursday, taking the deposit rate to 2.50%, but declined to pre-commit to further moves. The ECB's decision was seen as a signal that it would continue to tighten policy, with inflation forecasts revised upwards due to the prolonged energy shock.
On the US side, final-demand PPI rose 0.4% month-on-month in August, matching expectations, but the annual rate accelerated to 5.4% from 4.7%, slightly above consensus. This strengthened the case for caution from the Federal Reserve ahead of next week's FOMC meeting.
ING FX strategist Francesco Pesole noted that the US Treasury's announcement of a $6 billion long-term bond buyback could help the dollar respond more efficiently to external drivers such as higher oil prices and weaker equities. However, he also cautioned that investors were unlikely to abandon the 'dollar debasement narrative' just yet.
For sterling, the key tension remains between rising UK rate expectations and the broader inflation shock from energy prices. A sustained oil rally could strengthen the case for tighter BoE policy, but could also undermine UK growth and risk reversing some of the pound's recent gains.