The British pound moved toward its third consecutive daily loss against the US dollar on Thursday as concerns mounted about a prolonged rise in energy prices and escalating tensions in the Middle East war, prompting investors to seek the dollar as a safe-haven asset.
Bank of England Governor Andrew Bailey is scheduled to deliver remarks later on Thursday, just one week before the central banks policy meeting to decide interest rates.
As oil and natural gas prices climb, investors expectations for inflation have also increased. Although the pound has fallen only 0.7% since the war began on February 28, it remains among the best-performing currencies among economies that rely heavily on energy imports.
By comparison, the euro and the South Korean won have each lost between 2% and 3% of their value, while both the Indian rupee and the Japanese yen have declined by more than 1.5%. The weakness of the euro is also evident in its 1.3% decline against the pound since the conflict began.
In recent trading, the pound slipped 0.2% against the dollar to $1.3386. It also weakened against the euro, which rose 0.1% to 86.3 pence.
Sharp shifts in interest rate expectations
Higher bond yields and expectations of interest rate hikes typically support currencies, which has partly helped limit the pounds losses. However, market expectations for monetary policy have fluctuated sharply over the past two weeks.
At the end of February, markets expected the Bank of England to cut interest rates twice this year. Those expectations have now shifted to reflect roughly a 50% probability of one rate hike by December.
In Europe, swap market pricing indicates that the European Central Bank could raise interest rates twice this year, while the US Federal Reserve appears less inclined to implement the two rate cuts markets had previously expected.
Fiona Cincotta, strategist at City Index, said the sharp repricing of Bank of England rate-cut expectations is providing some support for the pound. She added that attention will remain focused on geopolitical developments and concerns about rising energy prices and inflation resulting from the war.
As investors increasingly bet that several major central banks may raise interest rates rather than cut or hold them steady, they have been selling short-term bonds, which typically benefit from stable or falling interest rates.
UK government bonds have been the hardest hit among major markets. Two-year gilt yields have risen about 50 basis points since the war began, compared with increases of 38 basis points in Italian yields, 30 basis points in Australian yields, and just 21 basis points in two-year US Treasury yields.