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In our FX review this week, we talk through the large US inflation number from Friday that roiled the markets, along with a bumper week ahead with both the US Fed and Bank of England meetings.

What’s larger than large?

On Friday afternoon, the highly anticipated US inflation number for May came out. It was expected to be 8.3%, the same as the previous months reading. If it was, it would also support the view that inflation is showing signs of stagnating, after which it should fall.

However, this wasn’t the script. It came out at 8.6%, with even core inflation (i.e stripping out food and energy volatility) above expectations at 6%. The feedback was immediate. USD strengthened across the board, supported by US yields also jumping higher. Equities naturally came lower, further completing the spiral as investors bought USD as a haven.

The move continued into the market close on Friday, and we are expecting it to continue next week, certainly through until the US Fed meeting on Wednesday. Both EURUSD and GBPUSD have plenty of room to run lower before hitting year to date lows, and so we like being short both pairs.

ECB aren’t that bullish

We also had the ECB meeting last Thursday. Going into it, we were expecting the committee to be bullish, eyeing up rate hikes later this summer and give the EURO a kickstart. We thought that they missed the mark in execution. Even though a 0.25% rate hike looks to be a done deal for July, the ECB lowered growth forecasts and raised inflation forecasts. This isn’t a great cocktail, and so naturally the EURO faltered.

However, it wasn’t a complete wipeout, but when the US inflation figure came out, EUR positions were cut extensively.

Busy week ahead

This week we have both the US Fed (Wednesday) and the Bank of England (Thursday) to look forward to. After the bumper inflation print, we think that the Fed will have to address this. We expect a 50bps hike, with the committee talking up the possibility of more aggressive rate hikes later this summer in order to get inflation under control. This should be bullish for the US dollar.

On Thursday, we again expect the Bank of England to hike, but probably to follow their usual 25bps raises. We’re unsure that GBP will rally much from this, as the pace of hikes has been well outlined by the central bank. In fact, if the committee hike but offer caution about the future for the UK economy, the pound could come under pressure.

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