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Sterling hangs more on the Fed than the Tories

Fed may soon pose as much downside risk to the pound as the Conservative leadership contest

The pound against the dollar has been hoisted as much as 130 pips off 5-month lows this week and anticipation of looser Federal Reserve policy has probably been the biggest boost, even as the Fed’s statement and press conference pose risks to those gains tonight.

The part played by the Conservative leadership race is subtler. Boris Johnson extended his lead to 143 in the third round from 126, even after some backers reportedly lent votes to Home Secretary Sajid Javid. That suggest Johnson will be even less stoppable in later ballots. Elimination of Dominic Rabb, supporter of the hardest Brexit, in the previous round, may have encouraged Johnson to conspicuously walk back no-deal pledges. But such inconsistency, even unreliability, is another reason why sterling markets are set to remain wary. Raab tipped the balance even further in Johnson’s favour by backing him and tacitly resuming some Brexit pressure. The full results of tonight’s ballot: Boris Johnson: 143; Jeremy Hunt: 54; Michael Gove: 51; Sajid Javid: 38; Rory Stewart: 27. Stewart, the last remaining outsider, and most publicly pragmatic about Brexit is eliminated. The voting continues to suggest ample room for political pressure on the pound to ebb back, given that sterling buyers have unequivocally demonstrated disfavour for an ‘uncontrolled’ Brexit.

Additionally, Inflation numbers out this morning provided little backing for the earlier than expected BOE rate hike mooted by some policymakers. Headline prints were stable relative to forecasts, but input prices collapsed to a 1.3% rate on the year in May from 4.5% in April. There was literally zero growth on a monthly basis.

This leaves sterling’s fate largely down to the Fed. The minutiae of commentary and market reaction is set to decide whether the pound extends or ends its bounce. The Fed has several levers to pull before it cuts rates as much as four times before year end, as some market pricing seems to expect. What’s important is whether the sum total of commentary, possible reduced inflation forecasts, and lowered dot-plot estimates are deemed to have met market expectations. Anticipation is so huge that there are decent risks to the downside, including for the pound.

Chart thoughts

Cable has now staged its most sure-footed upswing since a 5% slide this month, adding the look of being ‘structurally overbought’ to possible pressures. GBP/USD is beginning to make inroads in other ways though, pacing 50- and 100-hourly moving averages. And whilst some recently breached levels look peripheral, some are not. GBP/USD has sliced clean through $1.2559 from the big swooping swing low on 31st May. But short-term oscillators are drifting lower and sterling could therefore soon eye the corroborated pivot around $1.2605. It needs to hold above that to have any hope of a shot at the real prize, $1.27081, marked unmistakeably as key resistance at the top of a sharp failure at $1.2708 last week.

Sterling/U.S. dollar - hourly

Source: City Index

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