Pounds tumble may be temporary as UK inflation pressure eases

UK inflation data for June fell to 2.6% from 2.9% in May, which was a larger decline than had been expected. This was the first decline in CPI since October last year, and the first decline in the CPIH index (which includes owner occupier housing costs) since April 2016. The key drivers of weaker prices included a fall in motor fuel prices and in recreational and cultural goods, this offset rises in furniture and furnishings prices. The Office for National Statistics noted, that housing costs remain elevated.

The sterling effect

The other point to note is that prices pressures could decline in the coming months as last year’s post referendum revaluation of sterling starts to slip out of the index. It was June 2016 that the pound began its sharp decline, which lasted until October, thus we could see weaker inflation for the next few months’.

The point worth noting is that price pressures remain elevated relative to recent years, which could limit the benefit to the consumer. However, the squeeze on the consumer has definitely lessened in recent weeks, and if this continues then it could be a key driver of retail sales in the coming months and protect UK growth, which is starting to look at risk from a slowdown.

Why weak prices is good for the pound

GBP/USD fell 100 pips on the much weaker drop in prices, however, we believe that weaker inflation is actually good news for the pound once the dust has settled, as it eases pressure on UK spenders, which could be a boon for consumption down the line. At the time of writing, GBP/USD, which we mentioned yesterday tends to be the most sensitive to UK economic data releases, is finding support at 1.3020, as long as it doesn’t break below 1.30 in the short term – the low from 14^th July – then the outlook for sterling is bright and we could see a further attempt by the bulls to try and break 1.3125 resistance.

Why FTSE 250 could steal the limelight

The other index worth noting is the FTSE 250, which has risen on the back of this price data. The initial uptick in the index is partly due to the weakening in the pound, however, the UK smaller cap index tends to be more sensitive to UK data, so a drop in inflation is good news for this index as it could be a better reflection of a less strained UK consumer than the larger FTSE 100.

The chart below shows the FTSE 250 and the FTSE 100, this chart has been normalised to show how they move together. As you can see, the FTSE 100 has outperformed the FTSE 250 over the past month, however, if we get a good spate of UK economic data this week, including retail sales on Thursday, then we could see the FTSE 250 play catch up.

Chart 1: