AFEX’s Lillicrap: Interest Rates Expected to Stay Low Until 2017

Market-based indicators of when the Bank of England might raise interest rates are showing a delay of over a year, according to Associated Foreign Exchange (AFEX) risk manager Lucy Lillicrap.

In a market briefing released on Wednesday, the analyst was especially bearish the currency, mirroring the activity of traders who were chasing it lower after a string of poor data releases at the start of the week led to declines in 14 out of its 16 most heavily traded pairs.

Lillicrap said the economy was “losing momentum,” after data out this week showed a slow-down in Manufacturing activity in November, a below expectations result for Construction PMI, and poor retail data:

“The British Retail Consortium’s Shop Price Index dropped the most since March last month compared with a year earlier, whilst a Purchasing Manager Index showed growth in Housing slowed in November, bolstering the case for Interest Rates to stay low for longer.”  

Despite some notable positives in the recent news flow, including a BOE report showing all the U.K’s major banks passed its latest round of stress tests as well as hawkish commentary from BOE’s Cunliffe, traders remained bearish on the UK currency which dropped to 7-month lows versus the dollar in intraday trading on Wednesday.  

On the question of when the central bank might make a rate hike, the AFEX analyst cited data showing markets are pricing in a latter-than-expected 2017 move:

“Forward Contracts based on the sterling overnight index average, or SONIA, aren’t fully pricing in a quarter point rate increase from the BOE until after January 2017.”

Overly bearish view on UK Manufacturing?

The fall in Construction PMI in November did not show a decline in overall activity only a slow-down, as the PMI remained above 50, the level which distinguishes growth from decline.  

Looking at the report also reveals some positive insights in amongst the negatives.

For example, although the report cited construction employment had fallen, it had done so from an “11-month high” in October.

In addition, construction firms remained highly optimistic, with sentiment above pre-crisis levels:

“Survey respondents remained highly upbeat…with over half (55%) forecasting a rise in Output over the year ahead and only 5% expecting a fall.”

The slow-down in Manufacturing PMI reported on Tuesday which had also contributed to sterling weakness must also be placed in context of fairly sustained growth over the longer-term.

The Market report stated that:

“UK Manufacturing sector maintained a positive start to the quarter seeing growth ease only moderately from the recent peak attained in the last survey.”

Deflation still a drag

It is continued price pressures which remain arguably the greatest drag on rate hike expectations, and therefore the pound sterling.

In October Consumer Prices fell by 0.1% for the second consecutive month, the first time this had happened for 50 years. This was despite a fall in the Unemployment Rate to 5.3% as wages remain capped.

The trend for lower prices was reflected in the BRC shop price data released on Wednesday, which revealed a fall in non-food prices for the 32nd consecutive month, to “record lows”.

BRC Chief Executive, Helen Dickinson, said: “Shop prices fell by 2.1% last month as a result of retailers continuing to invest in price competition in the run up to Black Friday and lower commodity prices, marking a joint record low for prices (with March 2015).  

“Non-food prices showed a remarkable 3.3% drop, driven largely by reductions in clothing, footwear, electricals, DIY, gardening and hardware prices.”