The pound climbed to a six-week high against the euro on Tuesday after official data showed the UK economy grew faster in the second quarter than initially reported. The upward revision to growth has strengthened expectations that the Bank of England (BoE) will keep monetary policy tight through the end of the year.
Sterling's move reflects a broader shift in investor sentiment: traders now see a greater chance that the BoE will raise interest rates again before 2025, a prospect that tends to support a currency by making it more attractive to yield-seeking investors.
What the data showed
The Office for National Statistics revised the UK's April-to-June growth rate up to 0.5%, from the previous estimate of 0.4%. Economists polled by Reuters had expected no change, so the upward surprise caught many by surprise.
While a 0.1 percentage point revision may seem small, it carries outsized weight in the current environment. The UK economy has been navigating a period of sluggish growth and high inflation, and any sign of resilience can shift the outlook for monetary policy.
The revision was driven by stronger-than-expected exports and services activity, according to the data. That suggests the economy may be more robust than earlier figures indicated, giving the BoE more room to keep rates elevated without immediately stalling growth.
Why the pound reacted
Currency markets are highly sensitive to interest rate expectations. When traders believe a central bank will hike rates, they often buy that currency, anticipating higher returns on deposits and bonds denominated in it.
After the growth revision, market pricing compiled by LSEG implied about 33 basis points of BoE tightening by year-end. That is roughly equivalent to a one-in-three chance of a quarter-point rate hike, or a smaller move, and it helped push sterling to its strongest level against the euro in six weeks.
However, not everyone is convinced the market is reading the situation correctly. BNP Paribas Asset Management, an investment manager, cautioned that the market may be “overly hawkish” in its expectations. The firm suggested that the BoE might not follow through with the rate increases that traders are pricing in, given the broader economic uncertainties.
What it means for investors
For everyday investors, the immediate takeaway is that currency movements can ripple through portfolios in several ways. A stronger pound makes imported goods cheaper, which could help ease inflation over time. It also affects the value of overseas investments held by UK-based investors, as foreign assets become worth less in pound terms.
For those with exposure to UK equities, a firmer currency can be a mixed bag. Companies that earn most of their revenue abroad may see their earnings translated back into fewer pounds, potentially weighing on their share prices. Conversely, domestic-focused firms could benefit from a more stable economic backdrop.
The bigger question is what the BoE does next. If the central bank does hike rates again, borrowing costs for mortgages and loans would rise, putting more pressure on households. If it holds off, the pound could give back some of its recent gains.
Investors will be watching upcoming economic data and BoE communications for clues. Any signs that inflation is cooling faster than expected could reduce the need for further tightening, while stronger growth data could keep the hawkish bets alive.
In the meantime, the UK growth revision adds to a mixed global picture. Elsewhere, Japan's retail sales growth cooled in August, while China's private sector growth accelerated in September, according to a key index. These divergent trends highlight how different economies are at different stages of their recovery cycles.
For now, the pound's rise reflects a market that believes the UK economy is holding up well enough for the BoE to keep policy tight. Whether that belief proves correct will depend on the data in the coming months.
