Pound Sterling Tanks 1.13% lower as US Dollar Steamrolls Higher

January 9, 2025 - Written by David Woodsmith

STORY LINK Pound Sterling Tanks 1.13% lower as US Dollar Steamrolls Higher

GBPUSD is –1.13% lower on Wednesday as the US dollar steamrolls higher.

The yield on UK gilts is spiking higher and the 30-year made 25-year highs.

Yields are also higher in the US and other countries as inflation bounces back and data improves.

Volatility has stayed high this year and Tuesday was yet another wild session. Hot data from US Services PMI and JOLTS Job Openings pushed US yields on another leg higher and towards levels where markets are getting jittery. The 10Y reached 4.7% resistance, which is the last barrier before 5% and panic levels.

Meanwhile, President-elect Donal Trump talked and posted about all manner of issues including making Canada a US state and taking control of Panama. This could be seen as destabilizing for markets, or at least distracting from the issues the market wants to see addressed. It will be a difficult time for investors as Trump can take to social media at any point of the day and cause volatility. Headlines and volatility are just something markets will have to factor in.

UK Yields Break to New Highs

Yields were higher in the UK too on Tuesday and the yield on UK 30-year gilt reached an intraday high of 5.25%, surpassing the level hit in the aftermath of Liz Truss’s disastrous September 2022 mini-budget, and reaching to the highest level since 1998. The recent inflationary UK budget has been a factor, as has the relatively hawkish stance of the Bank of England. Furthermore, bond yields in developed markets globally have been moving higher in aggregate and there has been a noticeable pick-up in inflation. This started in the US in Q4 last year and has spread as the EU registered its third straight monthly rise earlier this week.

Whether long-term yields stay as high as they are does not necessarily depend on the BoE who only set short-term rates. As example of this, US long-term rates have risen around 1% while the Fed has cut short-term rates by around the same amount. This has steepened the yield curve.

For long-term yields to drop, markets either need to see slower growth or fading inflation. They would then re-price a lower terminal rate from the BoE. As ING explain,

“The December SONIA forward now suggests a terminal rate of 4%, which means just three 25bp rate cuts are priced in from here. We think the BoE will cut more, but with services inflation still high, more data is needed to convince markets of this.”

Remember the Fed just cut their 2025 projection from 4 cuts to just 2. Since the Fed and BoE have largely moved at the same pace, markets may be concerned the BoE do something similar if inflation gets uncomfortable again. There may also be some pressure on Chancellor Rachel Reeves as her budget is partly responsible for the tightening of financial conditions. Any further strength in yields could force her into a U-turn on her pledge to not raise taxes again in order to continue to meet her fiscal rules.

Higher UK yields should keep the pound supported, although there has been some weakness on Wednesday and this has allowed EURGBP to climb back over 0.83 to 0.834 with a gain of +0.7%. GBPUSD is down 1.13% to near 1.23 in what looks like a capitulation move as traders finally pare bets against the USD. While rates may be similar in the UK and US, the narrative of tariffs and US protectionism means the USD is more attractive.

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TAGS: Pound Dollar Forecasts