Prior to yesterday’s MPC meeting, the market didn’t expect the Bank of England to raise the base rate until Q1 2019 however, following a surprise decision by one of the policymakers at yesterday’s policy meeting to vote for a rate increase, the market has now shifted the timing of the first rate hike to Q4, 2018. Sterling also responded, rising over 1% against the dollar and the euro, although the vote was still 8:1 in favour of no change to rates and the dissenter, Kristin Forbes, is due to leave the Bank of England in June; other members said it would not take much for them to follow suit, signalling the risk of a shift to a more hawkish stance soon. In other positive news, the Bank of England also increased slightly its forecast for Q1 growth to 0.6%.
With global inflation and growth numbers moving higher, there does seem to be a discernible shift towards a normalisation of the rates environment. The minutes from the MPC meeting said that it would take “relatively little upside news on activity or inflation” for members to vote for higher rates. While political risk remains elevated, these comments do suggest that the pound has the potential to make strong gains should the economy continue to show gains. Coincident releases like the Purchasing Managers Indices will be closely watched by the market.
While the MPC is adopting a more hawkish stance, the less hawkish stance from the Federal Reserve earlier in the week has seen the US$ lose ground with the dollar index down 1% on the week. Emerging currencies responded well with a number of Asian currencies posting large gains, in particular the Taiwan dollar which made it biggest weekly gain in 5 years and the South Korean Won which made its biggest weekly gain in 8 months.
The euro has made good gains over the past week as the anti-EU PVV party failed to make the gains that some commentators had predicted. The euro is approaching year-to-date highs against the euro and the dollar. While spot FX performance has been good, it is worth remembering that the pivotal French presidential elections are just around the corner. FX options markets are increasingly pricing in the risk that Le Pen could perform strongly with the cost to buy insurance against a fall in the euro spiking for contracts with expiries occurring around the elections in late April, early May.