Sterling on top but threats mount up

The pound’s best moment this month was reaching its strongest level for a year against the euro, helped by expectations that UK interest rates will stay higher than eurozone rates and the feeling that the new chancellor John Healey will be a safe pair of hands. However, since then the ONS has revealed that UK inflation and unemployment are both less than expected – good news, but it could make the Bank of England less hawkish and has therefore hit the pound. Higher oil prices, rising gilt yields and questions over the UK’s fiscal outlook have also weighed on sterling. For euro buyers, the opportunity has not vanished, but the easy part of the rally may be over.

The euro is being driven by one thing today: the European Central Bank. Eurozone inflation fell in June, giving policymakers more room to pause and wait, which indeed they did. The bigger issue is tone. If Christine Lagarde sounds relaxed about inflation, the euro could lose support. If she warns about energy prices, wages or future inflation, markets may decide another rise is still possible. That could make life harder for the pound. For buyers in Spain, France, Portugal or Italy, today’s ECB message could affect how much sterling headroom they still have.

The dollar has had a choppy July. Earlier in the month, softer inflation and weaker labour-market signs made investors question whether the Federal Reserve could stay hawkish. That helped sterling recover some ground. More recently, the dollar has strengthened again as Middle East tensions pushed oil prices higher and investors moved back towards safer assets. The Fed meets next week, with markets watching whether policymakers sound more worried about inflation or growth. US inflation remains above target and retail sales are still holding up. For dollar buyers, the message is simple: this currency can turn quickly.