Market relief as Trump signals delay in Iran military decision

The Bank of England kept rates on hold at the June MPC meeting, as expected, and sterling gained just a touch on the euro briefly but is back trading at 85.5p, where it was prior to the MPC announcement, with the single currency staying over the 85p level at all times, which it broke above earlier this week. Against the dollar, the euro traded down to around $1.1450 for a short time but has gained back to above $1.15 this morning. Sterling also gained on the greenback, back to over $1.3475. Markets remain on edge as developments in the Middle East unfold with the White House saying yesterday that President Trump will decide in the next two weeks whether or not to join Israel’s war on Iran. That lessened the chances of an immediate attack on Iran by the US which might give some short term relief to markets, and sees the dollar lose ground this morning, equities rise, bond yields tick down and oil price trim price gains, but does nothing to remove broader uncertainty about the consequences of US involvement and the risk of a sharp spike in oil prices which may cause a return to higher inflation.

Market relief on delay to US military decision. The S&P 500 closed more or less flat on the day yesterday while European indices did poorly, with the Eurostoxx losing 1.3% for the day. The news that President Trump is holding off on an attack, for now, sees equities in Europe open higher this morning. The BoE decision to stay on hold – with a slightly more dovish split in the voting – was not enough to lower yields on gilts yesterday in an environment where yields wear ticking up across Europe. 10-year US yields were little changes at c.4.4% but 10-year German were up 2bps, 10-year French up 6bps and 10-year UK up 4bps, back over 4.5% again. Yields are, however, ticking down everywhere this morning reversing some or all of those moves from yesterday. Oil prices moved higher yesterday with Brent crude trading at $78/barrel at close of play, but has fallen to $76 this morning which is still about $10 higher than it was two weeks ago.

The Bank of England MPC voted 6-3 to keep the bank rate on hold at 4.25%. The Committee voted 6-3 to keep rates on hold with 3 members favouring a 25bps reduction. The Bank kept its guidance unchanged saying that future rate cuts will be ‘gradual and careful’. Governor Bailey said that UK interest rates remain on a gradual downward path in a ‘unpredictable’ world and that they were seeing signs of softening in the labour market and were monitoring how this slowdown would feed into inflation. The minutes showed the majority of the Committee thought risks to inflation were ‘two-sided’  and all agreed rates were not on a ‘preset’ path. Separately, with CPI inflation above 3%, Governor Bailey’s letter of explanation to Chancellor Reeves said that this higher inflation was temporary and there are signs that wage pressures were normalising which the BoE think will take pressure off inflation.

The MPC voting split was more dovish than expected. While the market pricing had the BoE staying on hold today, most commentators believed that only two members would vote for a rate cut. The additional unexpected voice calling for a cut was Deputy Governor Dave Ramsden. The last time Ramsden dissented from the majority in calling for rate cut was at the December meeting, with the BoE staying on hold at that time but then cutting rates by 25bps at the following February meeting. Ramsden, therefore, could be seen as a bell weather and this is a dovish signal that a majority of the MPC may join him in voting for an ease in policy as soon as the next meeting in August. The Bank will also have new forecasts at that meeting, so the chances are high that we will see some action then with markets pricing in a c. 75% chance of a 25bps cut.

Looking to the day ahead, a light day on the economic data front. We get the Philly Fed business outlook and leading index in the US and Euro area consumer confidence. We have already had UK retail sales data for May, which was poor, showing a broad based sharp fall in retail sales down 2.7% on the month and 1.3% on the year. This is a worrying sign and perhaps shows that UK consumers are cautious amid persistent inflation and a softening labour market.