Sterling Weakens as Iran Conflict and Higher UK Energy Prices Fuel Uncertainty
Market Reactions to Geopolitical Tensions and UK Energy Price Increases
By Amanda Cooper
Sterling Performance Amid Middle East Uncertainty
LONDON, May 27 (Reuters) - The pound fell for a second day against the euro on Wednesday and made little headway against the dollar, as doubts about the likelihood of peace in the Middle East made traders cautious.
The nearly 7% drop in the oil price this week has given some respite to the currencies of more import-dependent nations, which include sterling, but overall, trading ranges have been narrow and volatility has been contained, reflecting a lack of conviction among investors.
Impact of Iran-U.S. Tensions
Iran said on Tuesday U.S. strikes near the Strait of Hormuz represented a "gross violation" of a ceasefire in place for nearly seven weeks. The U.S. said its attacks were defensive in nature.
Most market participants believe a resolution to the conflict is more likely than a full-on escalation, but the level of uncertainty is high.
UK Energy Price Cap and Its Effects on Sterling
Ofgem's Price Cap Hike
UK ENERGY PRICE CAP RISES
Closer to home for the pound, energy regulator Ofgem on Wednesday hiked its price cap by 13%, the most in more than two years, in response to a surge in wholesale gas prices caused by the conflict in the Middle East.
Sterling weakened against the euro, which rose 0.1% to 0.8659 pence, and was steady against the dollar at $1.3452. UK government bond yields, which have risen more than those of any other developed nation since the start of the war, were down 5 basis points on the day at 4.826%, which would normally weigh on the pound.
Expert Insights on Sterling and Energy Prices
Kathleen Brooks, research director at broker XTB, said there were some sterling-positive takeaways.
Firstly, she said increased use of renewable energy in the UK meant the price cap was not rising as fast as in 2022 when the onset of the Ukraine war caused a surge in energy-linked inflation.
"Secondly, if there is a peace deal in the coming days that includes reopening the Strait of Hormuz, then energy prices could fall further, which could limit further upside on energy bills in future," she said.
"Added to this, although the rising price cap will put upward pressure on inflation, the second-round effects are likely to be minimal, since the UK economy is showing signs of weakness and the unemployment rate is rising."
Bank of England Rate Expectations
Money markets show traders expect the Bank of England to hike rates once this year, with a less than 50% chance of a second for now.
That indicates traders are less concerned about a hit to the economy from rising price pressures than two weeks ago when the expectation was for almost three hikes in 2026.
Grocery Inflation Trends
Researcher Worldpanel by Numerator on Wednesday said British grocery inflation eased to 3.1% in the four weeks to May 17, down from 3.8% the prior month, its slowest rate of increase since December 2024, although the full impact of the Iran war had yet to filter into supermarket prices.
(Reporting by Amanda Cooper; Editing by Barbara Lewis)
