SEPTEMBER REVIEW & OCTOBER OUTLOOK

GBP

The pound again traded well in September, notching a third straight monthly advance, and snapping a run of 4 straight years of losses in the month. Having extended its run of gains into a third month, cable has now equalled its best monthly winning streak since the beginning of 2023. In the process, spot traded north of the 1.34 figure, to its highest in well over 2 years. Concurrently, the GBP has traded similarly well against the EUR, with GBP/EUR having pierced north of the 1.20 figure, for the first time since April 2022, extending its own winning run into a seventh straight month.

Sterling’s solid performance owes largely to the BoE’s monetary policy stance, with policymakers on Threadneedle Street plotting a much slower removal of restriction, and pace of rate cuts, than that seen from other G10 peers. The September decision further evidenced this, with policymakers voting 8-1 in favour of holding Bank Rate steady, while emphasising that decisions will be made on a meeting-by-meeting basis, and that policy must remain restrictive for “sufficiently long” to ensure a sustainable return to the 2% inflation aim.

On that note, incoming inflation data provided some cause for concern. While headline CPI held steady at 2.2% YoY in August, core inflation quickened to 3.6% YoY, and services CPI quickened to 5.6% YoY, with the latter two metrics implying that a significant degree of inflationary pressure continues to bubble away under the surface of the UK economy, reinforcing the MPC’s relatively cautious stance. Sterling’s solid performance owes largely to the BoE’s monetary policy stance, with policymakers on Threadneedle Street plotting a much slower removal of restriction, and pace of rate cuts, than that seen from other G10 peers. The September decision further evidenced this, with policymakers voting 8-1 in favour of holding Bank Rate steady, while emphasising that decisions will be made on a meeting-by-meeting basis, and that policy must remain restrictive for “sufficiently long” to ensure a sustainable return to the 2% inflation aim.

On that note, incoming inflation data provided some cause for concern. While headline CPI held steady at 2.2% YoY in August, core inflation quickened to 3.6% YoY, and services CPI quickened to 5.6% YoY, with the latter two metrics implying that a significant degree of inflationary pressure continues to bubble away under the surface of the UK economy, reinforcing the MPC’s relatively cautious stance. While the MPC don’t meet this month, another 25bp Bank Rate cut is likely to be delivered at the November meeting, though that again is likely to see a split vote among MPC members, particularly with 4 of the 9 member Committee having not voted in favour of a cut in August, and unlikely to have seen enough in the data thus far to change their minds.

This much more gradual pace of rate cuts should continue to provide solid support to the GBP, particularly with the FOMC having delivered a 50bp cut in September, and with the ECB looking likely to deliver back-to-back rate cuts, as the outlook sours further.

That said, it will be the fiscal side of proceedings where attention is primarily focused over the month to come, ahead of the Budget on 30th October. While the economic narrative from government has been one of ‘doom and gloom’ of late, the Budget will be the first formal occasion where Chancellor Reeves can set out her stall.

Given the prior announcements of a £22bln “black hole” in the public finances that government are seeking to plug, the Budget is likely to result in a significant overall tightening in the fiscal stance, both via sizeable spending cuts, and substantial tax hikes. On the latter, while income tax, national insurance, and VAT are likely to be spared from any increases, it seems highly likely that the Budget will include measures to raise greater revenue from capital gains tax (CGT), as well as inheritance tax (IHT), and potentially additional corporate ‘windfall’ taxes as well, for example, on the banking sector.

While the legitimacy of the aforementioned ‘black hole’ can be debated, the direction of travel from the Treasury is already clear. Consequently, consumer and business confidence is already beginning to suffer, with the former having plunged to a 6-month low per the September GfK index. This, on the whole, is the biggest risk to the GBP bull case in the short-term, that by tightening fiscal policy so significantly, the Treasury ‘shoot themselves in the foot’, and slam the brakes on what remains relatively solid economic momentum, thus necessitating a more aggressive dovish pivot from the BoE, and removing the pound’s primary source of support thus far.

EUR

The common currency gained ground against the greenback in September, extending its own winning run into a third straight month, with spot EUR/USD rallying north of the 1.12 mark, to its best levels in 14 months. This performance, though, is perhaps a little misleading, with the EUR having been notably soft in the crosses, particularly against the higher-yielding areas of G10, such as the GBP, AUD, and NOK. Once more, it is monetary policy divergence to blame here.

The ECB delivered, as expected, another 25bp deposit rate cut in September, bringing rates to 3.50%, with policymak-ers again refusing to pre-commit to a specific future policy path, instead preferring to remain with a data-dependent, meeting-by-meeting approach. Such an approach, however, has led the market to dramatically dovishly reprice its expectations for policy going forward, particularly in light of a rather significant softening in recent economic data.

While the German economy remains in the doldrums, the broader eurozone economy is also increasingly spluttering to a halt. September’s ‘flash’ PMI surveys showed output in the manufacturing sector contracting at its fastest pace in 9 months, while the comparable services index barely eked out expansion, printing 50.5, a 7-month low. Meanwhile, the overall composite output gauge slipped below the 50 handle, into contractionary territory, and to its lowest level in 8 months. The aforementioned PMI figures also included anecdotal evidence of price pressures continuing to ease across the bloc, which has subsequently been borne out, with both French and Spanish CPI cooling substantially more than expected, ahead of the release of German and eurozone-wide CPI figures in early-October.

Markets, however, have seen enough, with the EUR OIS curve pricing around an 80% chance of the ECB delivering a second straight 25bp cut at the October meeting, followed by another such reduction in December. Though policymakers have yet to endorse such a path, this dovish repricing is likely to increasingly weigh on the EUR, continuing recent trends against higher-yielders in particular.

More broadly, risks to eurozone economic activity continue to tilt to the downside, not only amid domestic weakness, but also due to lingering external factors. The Chinese economy, for instance, remains in the doldrums, battling long-running structural issues, while geopolitical tensions both in the Middle East, and in Ukraine, continue to linger, with the eurozone the most exposed of all major economic blocs to those particular conflicts.

USD

The greenback lost ground against the majority of its G10 peers in September, as markets begun to lose faith in the idea that the US economy would achieve a ‘soft landing’, while also pricing a more dovish Fed policy outlook after Powell & Co’s aggressive start to the easing cycle. As noted, risks surrounding the US economic outlook continue to grow, particularly concerning the labour market, where the pace of headline job creation has continued to slow. Headline nonfarm payrolls rose by +142k in August, though sizeable downward revisions to the prior two months’ worth of data saw the 12-month average of job gains continue to decline, slipping below 200k for the first time this cycle.

With policymakers having now obtained sufficient confidence in inflation returning sustainably towards the 2% target over the medium-term, the FOMC decided to act forcefully at the September meeting, beginning the easing cycle with a 50bp cut, as risks to each side of the dual mandate come back into better balance.

Going forward, developments in the labour market, barring any upside inflation surprises, will hold the key to the Fed policy outlook, with markets continuing to assign a roughly even chance towards a second straight 50bp cut at the November meeting. Despite labour market softness, overall economic performance continues to impress. GDP growth, on an annualised QoQ basis, has run north of 2% in seven of the last eight quarters, while leading indicators, such as retail sales and industrial production, point towards this solid momentum continuing into the second half of 2024.

Market participants appear to be displaying a degree of concern over this, and the possibility that policymakers may well be easing too much, too quickly, into an economy that remains resilient.

Away from monetary events, campaigning for the presidential election is set to ramp up significantly as October progresses, with Trump and Harris remaining neck-and-neck in opinion polls in the key swing states that will decide the election, even if the latter holds a lead at a nationwide level. For financial markets, as election day looms, the key difference between the candidates centres on views towards regulation – Trump favouring deregulation, Harris favouring more stringent rules on many sectors. Interestingly, each candidate’s views on fiscal policy are remarkably similar, with neither appearing particularly concerned about ballooning deficits, and both seeking a sharp increase in government spending.

At a broader level, though, with risks surrounding the US economy becoming increasingly two-sided, and with the FOMC seeking to return to a neutral rate setting sooner-rather-than later, headwinds facing the greenback seem likely to intensify over the medium-term.

GBP/USD TOP BANK FORECASTS

KEY DATES IN SEPTEMBER

GBP

• October 1: Manufacturing PMI (Sep F)
• October 3: Services PMI (Sep F)
• October 11: GDP (Aug)
• October 15: Labour Market Report (Aug)
• October 16: CPI (Sep)
• October 18: Retail Sales (Sep)
• October 24: Flash PMIs (Oct)
• October 30: Budget

EUR

• October 1: Manufacturing PMI (Sep F), Flash CPI (Sep)
• October 2: Unemployment Rate (Aug)
• October 3: Services PMI (Sep F)
• October 7: Retail Sales (Aug)
• October 17: ECB Decision
• October 24: Flash PMIs (Oct)
• October 30: GDP (Q3 F))
• October 31: Flash CPI (Oct)

USD

• October 1: ISM Manufacturing PMI (Sep)
• October 3: ISM Services PMI (Sep)
• October 4: Labour Market Report (Sep)
• October 9: FOMC Minutes (Sep)
• October 10: CPI (Sep)
• October 11: PPI (Sep)
• October 17: Retail Sales (Sep)
• October 29: JOLTS Job Openings (Sep)
• October 30: GDP (Q3 – 1 st Est.)
• October 31: PCE (Sep)

Click here for an instant quote or contact us for a free foreign exchange health check, guaranteed to save you money.