BoE Preview: Will Carney Live to the Expectations? Today, the Bank of England’s (BOE) starts its two-day meeting, which will culminate in tomorrow’s decision on interest rates.
The meeting comes at an interesting period for the global financial markets. As you already know, global markets have seen significant swings in the past two days. These swings have wiped out most gains they had established in the first month.
The market turbulence started on Friday when the Bureau of Labor Statistics (BLS) announced the January’s jobs numbers, which beat expectations. After this release, global investors started thinking again about the chances of high inflation which would trigger an increased pace of rate increases.
Therefore, today’s meeting comes at a very different time compared to the previous meeting when everything seemed normal.
For this meeting, investors expect the bank to leave interest rates unchanged at 0.50%. Therefore, tomorrow, traders will not focus on the headline numbers.
Instead, they will focus on two things. First, they will focus on the letter from Governor Carney to Philip Hammond explaining the current rate of inflation. As you recall, the rate of inflation in December soared to 3.1%, triggering the letter-writing scenario. In January, the inflation rate dropped marginally to 3.0%.
Second, they will focus on the statement from the MPC. This statement will help them decide on the expected pace of rate increases.
In the recent past, despite the increasing market volatility, traders have placed a 50% chance that the BoE will hike interest rates in May. They have also priced in two more rate hikes, possibly in September and in December.
The problem for this is that sky-high expectations often lead to disappointments. As you recall, in the November meeting, the BoE raised interest rates for the first time. While traders were pleased with the headline number, they were disappointed that the officials omitted language they had used previously saying the markets were underpricing the rate trajectory. At the end, the pound fell by more than 14 bps while the 10-year gilt yields fell by 8 bps. This was the biggest drop since the rate cut in 2016.
In other words, traders have become more hawkish which could complicate things for the BoE. Disappointing language could lead to another sell off in the pound amidst another one in the stocks market.
In addition, the decision comes at a time when the pound is doing well. In January, it climbed more than 50 bps against the dollar, which is its best start of the year on record. In addition, large money managers have increased their bullish bets on the currency to the highest level since 2014.
The meeting comes at a time when Brexit is a hanging cloud. Yesterday, a note released by the EU increased the complexity of the situation. According to the note, the EU will be at will to punish the United Kingdom, even by increasing tariffs and shutting down their market unless the UK made concessions. All these issues have made the political environment in the country very difficult for Theresa May who is struggling.
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