Sterling was steady in North American trading as the week opened with a risk-off tone, with broad US Dollar strength across FX markets. This came even as softer US jobs data and reduced expectations for a hawkish Fed stance over the rest of the year tempered some support for the greenback.
GBP/USD was at 1.3357 at the time of writing, having earlier slipped to an intraday low of 1.3328. The pair held within its recent range as Dollar demand met doubts over the Federal Reserve outlook.
Fed Pause Expectations and Policy Divergence
Given the current environment, we see the pound holding its ground against a dollar weakened by economic uncertainty. Last week’s US jobs report, which showed the economy adding only 150,000 jobs against an expected 190,000, has convinced us that the Federal Reserve will likely pause its rate-hiking cycle. Markets are now pricing in a greater than 60% chance of a Fed rate cut before the year is out, which caps the dollar’s potential upside.
In contrast, the UK’s economic data paints a different picture, suggesting a divergence in central bank policy. UK inflation remains stubbornly elevated at 3.2%, well above the Bank of England’s target and higher than the current US rate of 2.8%. This persistent inflation makes it highly probable that the BoE will maintain higher interest rates for longer than the Fed, creating a favorable interest rate differential for Sterling.
Trading Strategies and Volatility Outlook
This policy divergence is likely to fuel volatility in the GBP/USD pair over the coming weeks. We believe buying options is an effective way to position for this, as the pound’s volatility index sits near a historical low of 8.5, suggesting options are relatively cheap. Strategies that profit from a significant price move, such as long straddles with an August expiration, could prove effective.
For those with a directional view, we see the fundamental backdrop as supportive for the pound. We are considering buying GBP/USD call options to capitalize on potential upside toward the 1.3000 level last seen in the first quarter. Using a bull call spread would be a more conservative, lower-cost way to express this same view.
