Is it time for UK data to push sterling higher

It’s a big week for UK economic data, with inflation on Tuesday, jobs data on Wednesday and retail sales on Thursday. Expectations are rising for a big jump in CPI, a pick up in wage growth and a bounce back in retail sales last month. The question for traders is can this push GBP/USD above 1.30, which has proved a tough ceiling to crack.

Inflation set to soar, as expected…

Taking the inflation data first, the market is expecting CPI to tick up to 2.6%, from 2.3% in March. The core rate is also expected to bounce back to 2.3% in April, from 1.8%. The Bank of England said in its Inflation Report last week that inflation was mostly caused by imported price pressures due to the fall in sterling, so, if we continue to see the pound recover this year then inflation may not rise as high as expected. This was reflected in the Bank of England’s forecasts included in last week’s Inflation Report. The BOE brought forward its expectation for the peak in price growth to Q4 this year, when it expects CPI to reach 2.8%. So, a jump in CPI data for April may be followed by smaller increases in prices in the months to come, if the BOE forecast is correct.

Due to the level of expectation in the market for a big CPI number, the bigger risk is a disappointing number that could weigh on the pound. Key support levels to watch include 1.2900 for GBP/USD and 0.8500 for EUR/GBP.

It’s all about wages

A large increase in inflation data tomorrow may not by itself be enough to propel sterling much above 1.30 versus the US dollar. Instead we may need to wait for the wage data included in the UK jobs report on Wednesday to see a positive boost for the pound.

The Bank of England also made an interesting point last week that wages could rise due to higher than expected levels of business investment.  The weekly wage data for March is expected to show an increase to 2.4%, from 2.3% in February, however there is a chance that a larger than expected figure for jobs growth in the three months’ to March, which is expected to come in at a lacklustre 21k, could see a higher figure for wages. We believe that an upward surprise in wage and jobs data could be the key driver for the pound this week, with better than expected numbers driving GBP/USD into a new paradigm between 1.30 and 1.35 as we wait for the UK election on June 8^th.

Can the UK consumer rise from the ashes?

The last piece of the puzzle will be retail sales data that will be released on Thursday. The market is expecting consumption to bounce back in April, with retail sales excluding fuel expected to rise 1%, partly reversing the 1.5% decline in March. Although the late timing of Easter could boost sales figures, the ONS should adjust for this, so any boost to sales growth should highlight actual UK consumer strength. A pick up in wage growth would also bode well for retail sales going forward, which could be a powerful driver to lift GBP/USD above 1.30.

Overall, a stronger spate of UK economic data this week may restore confidence in the UK economy, after Citi’s UK economic surprise index fell to its lowest level since June last year in recent months. This could feed into stronger UK bond yields; it could also bring forward expectations for a UK rate rise, which is not expected until mid 2018. This could be a powerful tonic to boost the pound this week.

Two elephants in the room for sterling

However, when it comes down to the pound, there are two large elephants in the room aside from the fundamental data: the UK election next month and the on-going Brexit negotiations. The latest polls have Theresa May and the Conservatives on 49%, with Labour on 31%. We would argue that the election effect on the pound, which has been positive so far as the markets view a win for Theresa May as a good thing for UK asset prices, could start to wear off if Labour manages to tighten this gap. If support for Theresa May starts to wane, or if her victory is expected to be narrower than what is considered comfortable, then the pound could go into reverse and GBP/USD may return to the 1.25 level from before the day of the election itself.

The second elephant is the Brexit negotiations. While they are on hold during the election campaign, a big risk in the longer term for the UK is a break down in EU/ UK trade negotiations that could cut short any sterling rally. The latest YouGov poll shows that 68% of the UK electorate is now pro-Brexit. Thus, if the parties exploit this in the election campaign and annoy Brussels in the process, there is a real chance that negotiations could break down in the summer/Autumn months. This would be a negative development for the pound in our view, and if it becomes reality then the pound could quickly reverse recent gains, and see GBP/USD return to the 1.20 key support level.