GBP: Downside pressures deepen

Investor positioning continues to show that GBP versus EUR has become the preferred channel for expressing negative sterling views. The cross has now slipped to its weakest level since April 2023, breaking beneath the one euro thirteen threshold. By contrast, GBP versus USD is holding above one dollar thirty one after briefly touching one dollar thirty two yesterday.

This divergence highlights that broader moves in the dollar are doing most of the work in GBP versus USD. It is not that sterling is displaying inherent strength. Instead, domestic politics and weakening UK fundamentals are being reflected far more clearly in cross terms.

Across the G10 space sterling is under pressure this morning. Reports suggest that Chancellor Reeves is considering dropping plans for higher income tax rates and other revenue measures in the forthcoming Budget. That immediately raises questions about how the government intends to fill the fiscal gap. Gilt markets are likely to express that uncertainty at the open, with selling pressure expected to be concentrated at the long end of the curve. This is a familiar pattern in periods when the UK’s fiscal trajectory is viewed with suspicion.

Political instability has only made matters worse. Labour has endured a difficult week, with a swirl of rumours about challenges to Keir Starmer’s leadership, anonymous briefings and talk of coordinated plotters. Combined with the suggestion of a Budget rethink, these episodes would each be enough on their own to unsettle investors. Taken together they reinforce the sense of an administration losing direction.

The data backdrop is offering little comfort. Third quarter GDP rose only zero point one per cent, falling short of expectations. September GDP fell by zero point one per cent. This came on the heels of labour market figures earlier in the week showing unemployment rising back to levels last seen during the pandemic. Traders responded by increasing the probability of a December interest rate cut to more than eighty per cent through overnight indexed swaps.

The mix of weaker data, renewed pricing for monetary easing and intensifying political noise leaves sterling on a fragile footing. The near term bias continues to favour further losses, with GBP versus EUR remaining the cleaner way to express this view. A break below one dollar thirty in GBP versus USD is still more likely to require fresh dollar strength rather than any UK specific catalyst.

USD: Fed outlook turns increasingly uncertain

The official end of the longest US government shutdown on record has not produced an immediate reaction in currency markets. However the return of federal data releases could change that quickly. Investors remain cautious about the quality and consistency of the incoming numbers, and any further signs of labour market weakness may revive the downward pressure on the dollar.

The behaviour of the dollar in recent sessions has been noteworthy. Even though the probability of a December rate cut has fallen from nearly seventy per cent to around fifty, the dollar index has softened. This marks a clear break from the pattern seen earlier in the year when the dollar moved almost in lockstep with front end rates.

The shift reflects lingering doubts about the strength of the US economy. Interest rate swaps now imply a peak Federal Reserve rate above three per cent, yet the dollar’s muted reaction suggests that investors do not fully trust the higher for longer narrative. Private sector data points to emerging labour market fragility, with layoffs highlighted by Challenger and job losses monitored by Revelio both adding to concerns.

In practical terms the dollar is trading as though the easing cycle is still intact, even though short term rate cut expectations have faded. Some of this hesitation may stem from the uncertainty created during the shutdown. It also signals deeper market scepticism about the durability of US growth.

Volatility within the G10 space could pick up. One month implied volatility now sits more than one point above realised volatility, the widest gap since early April. While this partly reflects unusually subdued realised moves, it also indicates that investors are bracing for a shift as the data calendar restarts. Should the next round of figures disappoint, the dollar may find itself sliding further into the year end period.

EUR: Breaks higher, but conviction still lacking

The euro moved higher yesterday as the dollar softened, with EUR versus USD climbing above the twenty one day moving average. This level had not been tested since early October. It is somewhat ironic given that during the shutdown, when the euro lacked support from incoming US data, it actually underperformed.

The latest move looks more like a momentum adjustment than a fundamental turn. Short covering on euro positions and trimming of dollar longs have been the main drivers, rather than a strong belief that the euro should trade significantly higher. The market is increasingly uncertain about the true state of the US economy and is reluctant to build directional positions before the data flow resumes.

Pricing for the next Federal Reserve decision remains evenly balanced. This reinforces the view that the euro’s gains owe more to positioning than conviction. More substantial upside is likely to be capped for now, with the fifty and one hundred day moving averages converging near one dollar sixteen point six zero, which forms the next clear area of resistance.

The return of US government data, expected next week, is likely to set the tone for the next sustained move in the euro. Any confirmation of softness in the United States would provide a more solid foundation for EUR versus USD gains. Until then the single currency remains driven mainly by sentiment and broader dollar fluctuations.