Daily Insight

The Pound declined heavily against the majors yesterday, falling 0.8% versus the Dollar after a achieving a fresh 14-year high earlier in the week and we closed last night 0.3% lower against the Euro following a surprisingly dovish report from the Bank of England. The catalyst for the decline in Sterling began on Tuesday afternoon when the governor of the BoE, Mervyn King, publicly declared that UK inflation was expected to fall quite sharply in the second half of the year, which suggests that interest rates may peak around 5.5%. However, following the release of the minutes from the BoE's last policy meeting yesterday morning, the Pound fell heavily as the nine-strong committee voted 5-4 in favour of a rise in rates in January despite expectations of a unanimous decision. The so called dissenters maintained that there was insufficient evidence to warrant a rise in rates this month but with inflation running well above the 2.0% target, it seems likely that interest rates will need to rise further with the market anticipating a hike in March.

Elsewhere, The Pound failed to find support after a separate report showed that the UK economy expanded at the fastest pace in nearly three years in the fourth quarter of 2006 led by considerable growth in services and retail sales. The preliminary estimate for gross domestic product, the value of all goods and services, increased 2.9% from a year earlier, the fastest pace since 2004 as the economy expanded 0.8% from the third quarter. With the economy growing at a faster pace than anticipated and inflation well above target, it seems inevitable that the BoE will continue raising interest rates in the short-term and that should provide further support for the Pound despite yesterday's slide.

The Euro managed to claw back some modest gains against Sterling yesterday and remained largely unchanged versus the Dollar despite the apparent lack of any economic data released in the Euro-zone or the States. However, the single currency has come under a modest amount of pressure this morning as German consumer confidence fell to the lowest level in a year on concerns that higher taxes will reduce disposable income. The gauge of confidence in Europe's largest economy dropped to a reading 4.8 following a revised 8.5 in January despite the dramatic fall in unemployment, which currently stands at a four-year low. Nevertheless, the Euro may receive a timely boost later today as a report on German business confidence is expected to rise to a record level in January following a considerable drop in oil prices and the German stock index rising to a six-year high.

Over the past 24hrs, the Dollar has made significant gains against Sterling despite the distinct lack of fundamental data released this week. However, there is some key economic reports released this afternoon in the States with the focus falling on existing home sales, which may provide a further indication of a rebound in the housing market. The slump in the housing sector has been one of the main catalysts for a slowdown in economic growth in the States following the Federal Reserve's aggressive monetary tightening cycle over the past two years. The Dollar rose last week as a report on housing starts showed that builders had started work on more new homes than anticipated and if existing home sales rises above forecasts today, we can expect the Dollar to make further gains against the majors.

Data Released 25th January

GER 09:00 Ifo Index (January)

EU 10:00 Current Account Balance (November)

U.S 13:30 Initial Jobless Claims (w/e 20th January)

U.S 15:00 Existing Home Sales (December)

written by Adam Solomon