Sterling trims early gains as caution sets in

LONDON (Reuters) - Sterling trimmed earlier gains after hitting a one-week high against a broadly firm euro on Tuesday as a top central bank official’s upbeat note on the outlook for future interest rate increases was met by some market scepticism.

FILE PHOTO: A British ten pound note is seen in front of a stock graph in this November 7, 2016 picture illustration. REUTERS/Dado Ruvic/Illustration/File Photo

Currency investors were burned by the Bank of England’s decision to keep interest rates on hold last month after signalling a rate hike was on the cards until a few weeks earlier.

That has left funds wary of pushing sterling sharply either way without any firm data to back those moves.

“Markets will take what the Bank of England is saying with a pinch of salt after their strange communication last month,” said Esther Maria Reichelt, an FX strategist at Commerzbank in Frankfurt.

In late afternoon trading, sterling GBP=D3 gave back most of its earlier gains and was broadly flat on the day at $1.3432.

BoE policymaker Gertjan Vlieghe told the Treasury Committee of parliament that policy rates are set to rise 25 to 50 basis points every year over three years, a comment initially interpreted by markets as supportive for the pound GBP=D3.

“His comments are helping sterling but it is important to remember that everything policymakers say today is conditional on the incoming data and that needs to be kept in mind to correctly assess the policy outlook,” said Viraj Patel, an FX strategist at ING Bank in London.

Against the dollar, sterling first extended gains and rose 0.4 percent to the day’s highs at $1.3492.

It also climbed 0.2 percent to a one-week high against the euro EURGBP=D3 at 87.60 pence but later trimmed some gains.

Interest rate markets were broadly unchanged by the relatively optimistic comments, with the probability of another quarter point rate hike holding at around 90 percent by the end of the year, the same levels as earlier this week.

Gains were capped before important data on the British economy due out this week, including inflation on Wednesday and the gross domestic product figure on Friday.

These will be scrutinised by investors to gauge whether the BoE might tighten monetary policy as early as August.

Tuesday’s rise in the pound came after concerns over the post-divorce relationship Britain negotiates with the European Union weighed heavily on the currency last week.

Adding to the uncertainty, lawmakers from Prime Minister Theresa May’s governing Conservative Party are reported to be preparing for a snap Autumn election amid fears that the Brexit deadlock will become insurmountable.

But the biggest reason for sterling’s recent fall has been a drastic shift in expectations of when the BoE will raise rates.

“Until a solution emerges on the Brexit front, a rate hike is the only things that could support sterling temporarily,” Commerzbank strategists said in a note.

“Without it, sterling remains unattractive.”

Reporting by Saikat Chatterjee; Editing by Catherine Evans