UK markets rebounded this week, with the FTSE 100 Index rising 1.25% to trade at 10,750 points at the time of writing.
The Bank of England (BoE) left interest rates unchanged at 3.75% at its latest meeting but struck a more hawkish tone in response to renewed energy-price pressures stemming from the Middle East crisis. The Monetary Policy Committee voted six to three to maintain rates, in line with market expectations, although Governor, Andrew Bailey warned that “policy may have to tighten” if inflationary pressures persist.
The BoE expects inflation to rise above 4% next year, increasing the prospect of a further rate increase. The central bank simultaneously announced changes to its quantitative-tightening programme, which prompted a rally in UK government bonds. Having accumulated a substantial gilt portfolio through successive rounds of quantitative easing following the global financial crisis, the BoE will continue to reduce its holdings but plans to retain £120 billion of gilts permanently. The remaining holdings will be sold over the next eight years, slowing the pace of balance-sheet reduction and providing some support to longer-dated government bonds. The announcement comes at a time when elevated gilt yields have been an increasing concern for both investors and the UK government.
The latest inflation data provided a mixed picture. Consumer price inflation accelerated to 3.1% in August, up from 2.9% in July and further above the BoE’s 2% target. Higher petrol prices were the main contributor, while rising household energy bills also added to the increase. However, measures of underlying inflation remained relatively contained.
Services inflation, an important indicator of domestic price pressures for the BoE, was unchanged at 3.4%, below economists’ expectations of 3.5%, while core inflation remained at 2.6%. This suggests that, at least so far, the renewed increase in energy prices has not resulted in a significant broadening of inflationary pressures. Meanwhile, the labour market continued to weaken, potentially giving the BoE some room to look through the temporary impact of higher energy prices.
Payroll employment fell by 39,000 in the three months to July, while preliminary data indicated a further decline of 26,000 in August. Vacancies fell 1.1% in the three months to August to 702,000, their lowest level since 2014, while unemployment remained at 4.9%. Private-sector wage growth also remained relatively subdued, with average weekly earnings excluding bonuses rising 2.9% year-on-year.
The combination of higher headline inflation and weaker employment presents a difficult backdrop for monetary policy. Energy prices could keep inflation elevated in the near term, while softer wage and labour-market data argue against an aggressive tightening cycle.
Commodity markets
In the commodity markets, Brent crude futures traded around $103 per barrel on Friday and are on track for a weekly fall, as Saudi Arabia shifted some crude exports through the Strait of Hormuz to compensate for the closure of a key pipeline, easing market fears that the outage will cause another major disruption to global supplies.
Saudi Arabia is making additional crude cargoes available to Asian refiners through ship-to-ship transfers just outside Hormuz near Oman’s Sohar port, sources familiar with the matter told Reuters. Shuttle vessels transport crude through Hormuz and then load it onto tankers waiting outside the strait, which allows these ships to avoid the risk of Iranian attack while sailing into the Gulf.
Earlier this week, the Saudis halted crude loadings at the Red Sea export terminal at Yanbu and cancelled some shipments to European customers, industry sources told Reuters. The latest decline in crude prices reflects a partial unwinding of the geopolitical risk premium rather than a fundamental change in the oil market. Improved logistics for Saudi crude exports have reduced the market’s assessment of how much supply is at risk, with oil prices reflecting not just available barrels but also the possibility of those supplies being disrupted. However, the Middle East supply network remains vulnerable, with investors particularly sensitive to developments around the Strait of Hormuz, export routes and oil terminals. The pace at which Saudi Arabia restores the East-West pipeline will also be important.
Gold prices traded around $4,390 an ounce on Friday and is set for a weekly rise, supported by easing oil prices, while investors assessed the latest Federal Reserve policy signals.
Equity markets
US equity futures rose on Friday after the major averages rallied in the previous session, supported by falling oil prices and lower bond yields, which improved investor risk appetite. In Thursday’s regular session, the Dow Jones Industrial Average gained 0.61%, the S&P 500 rose 1.14% and the Nasdaq Composite advanced 1.69%.
The Federal Reserve raised interest rates for the first time since 2023 at its latest meeting, while signalling that further increases could be required to contain inflation. The Federal Open Market Committee voted unanimously to increase the benchmark federal funds rate by 0.25 percentage points to a range of 3.75%-4%, in line with market expectations.
The decision comes as policymakers attempt to prevent price pressures stemming from the Middle East conflict and strong demand for AI-related components from becoming more broadly embedded in the US economy. President Donald Trump criticised the decision, arguing that US interest rates should be 1% or lower. However, his criticism was directed primarily at the Federal Reserve’s Board of Governors rather than Chair Kevin Warsh, whom he appointed earlier this year.
Short-term Treasury yields and the US dollar moved higher following the decision, reflecting expectations that monetary policy could remain restrictive for longer. Updated projections from Federal Reserve policymakers indicated that further rate increases remain possible over the coming months. Twelve officials projected another 0.25 percentage-point increase by the end of 2026, while four anticipated two additional increases. A further two officials expected rates to remain at their current level.
Markets will continue to monitor developments in inflation, energy prices and monetary policy, with the Federal Reserve’s future decisions remaining an important focus for investors.
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