UK Pound May Plunge Over 200 Pips If Service Sector Inflation Below 5.2%

Before the release of inflation data, the British pound found support against the US dollar at the key support level of 1.3054 and is currently experiencing a decent intraday rebound. This comes amidst a significant surge in US stocks following the release of positive earnings reports from several major Wall Street companies, suggesting that the recent easing of expectations for a Federal Reserve rate cut has not deterred bulls. The natural reaction in the foreign exchange market when risk is "present" is to buy US dollars. However, for now, the rise of the pound against the US dollar is a counter-trend rebound, and the risk still tends to be downward; it may be premature to declare the end of the selling in October. Analyst Robert Howard also confirmed this, as he believes that the inflation data announced by the UK in the middle of this week poses a particular risk to the pound against the US dollar. In a report to clients, he stated: "If the UK's inflation data released on Wednesday falls below expectations, the pound could head towards 1.28, as this would increase the risk of the Bank of England cutting interest rates twice before Christmas."

The UK's inflation is expected to fall below 2.0% again, but this is thanks to the drop in oil prices in September. The key driver of any foreign exchange market reaction will be on which side of the 5.2% service industry inflation it falls. If it is below 5.2%, the pound against the US dollar may come under pressure. Two weeks ago, Bank of England Governor Bailey surprised the market by indicating that the central bank might be more "aggressive" when considering rate cuts. However, he added that any such shift would depend on the nature of the inflation data. The market currently considers there to be a 50% chance that the Bank of England will cut interest rates by 25 basis points on consecutive occasions on November 7th and December 19th. If the data is weak, there will be an additional cut in December, which will put pressure on the pound. Howard said: "The pound against the US dollar was at 1.2800 in mid-August, and last Thursday it reached a one-month low of 1.3011, just a week after Bailey's dovish guidance hit the pound hard."