Pound gains as UK political shift and U.S. inflation focus steer currency markets

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Pound gains amid politics and data

Highlights

Sterling rises 0.24% to $1.3378, approaching Friday's one-month high of $1.3452, while the euro declines 0.1% to 85.19 pence.
Middle East tensions and U.S. inflation expectations drive investors to price in at least one Fed rate hike and two Bank of England increases this year.
Asset manager Rathbones reduces UK government bond holdings as markets brace for Andy Burnham's potential fiscal expansion following his July 20 succession as prime minister.

Currency moves and policy expectations

As reported by Reuters, sterling is up 0.24% on the day at $1.3378, staying not far below Friday's one-month high of $1.3452, while the euro slips 0.1% to 85.19 pence.

The move comes as investors lock in gains on the dollar after it climbs to more than one-year highs ahead of U.S. consumer price data. Inflation in the U.S. is expected to rise 3.8% in June, easing from 4% in May.

At the same time, renewed exchanges of fire between the U.S. and Iran in the Gulf push oil prices sharply higher this week. That is typically more negative for the pound than the dollar because Britain relies on imported energy and continues to face sticky inflation.

The latest Middle East flare-up also leads investors to price in at least one Federal Reserve rate increase this year and two from the Bank of England, a combination that in theory supports sterling. On a trade-weighted basis, the pound stands at its highest level in a year, helped largely by weakness in the euro over recent months.

IG technical strategist Axel Rudolph says the near-term outlook for euro-sterling remains bearish while the pair stays below the June 2025 high of 85.75 pence. He adds that a move above this week's high of 85.41 pence is needed for a rebound to take hold.

UK leadership change unsettles bond investors

Attention in UK markets is now turning to domestic politics, with Andy Burnham set to replace Keir Starmer as prime minister on July 20 and investors watching his choice of finance minister.

Betting markets show energy security minister Ed Miliband as the current favourite for the role. He is widely viewed as fiscally expansive, a prospect that unsettles gilt investors who are already concerned about the fragility of Britain's public finances.

Bloomberg News reports on Tuesday that asset manager Rathbones cuts its holdings of UK government bonds to protect against a possible selloff. The firm is guarding against the risk that Burnham announces plans to increase spending or borrowing, a move that could intensify pressure on the gilt market.

Our earlier coverage of the recent jump in UK gilt yields explained how escalating tensions in the Gulf and higher oil prices pushed borrowing costs back above 5% and intensified the sell-off in sovereign debt. We noted that the energy-driven inflation shock and uncertainty ahead of Andy Burnham’s move into Downing Street were compounding fiscal worries and making investors more sensitive to any signal of looser borrowing or spending.

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