Dec 19 Bank of England Meeting Minutes (9:30 GMT; 4:30 EST)
Expected: 6-3 For 25bp Cut
Previous: 7-2 For No Cut

How Will The Markets React?

The biggest event risk for the UK markets this week comes from the release of the minutes from the Bank of England’s December meeting, as they are likely to echo much of the tentative sentiment reflected in the monetary policy statement that was released after they announced their 25bp rate cut. Indeed, the statement noted that “forward-looking surveys of households and businesses suggest spending is moderating, broadly in line with the projections contained in the November Inflation Report. But conditions in financial markets have deteriorated and a tightening in the supply of credit to households and businesses is in train, posing downside risks to the outlook for both output and inflation further ahead.” Furthermore, the Bank said that “higher energy and food prices are expected to keep inflation above the target in the short term.... (but) slowing demand growth should ease the pressures on supply capacity, bringing inflation back to target in the medium term.” Recent CPI reports have supported this case, as headline inflation held above target at 2.1 percent, while core CPI eased to 1.6 percent – the softest reading since April 2006. However, the most market-moving piece of information from the BOE minutes will be the vote count, as just a few additional motions for a rate cut than traders are expecting could lead investors to ramp up speculation that the BOE will indeed make monetary policy more accommodative again in January. The December rate decision was likely a close call, but there had to be at least five members that voted for a 25bp cut, and indications that the policy board was sharply divided may raise speculation that the decision was a “one and done” deal. On the other hand, if the decision was unanimous (or nearly so), the markets may start to bet that the bank will cut rates by another 25bp in the first quarter of 2008, which will do little to reignite a bid for the British pound.

Bonds – 10-Year Long Gilt Futures

Gilts have slowly climbed from the low of 107.77, though resistance at 108.44 has limited gains. Daily oscillators are beginning to turn higher from oversold levels and Wednesday’s UK event risk could ignite additional gains, especially if the vote count reflects a nearly unanimous vote for a rate cut. On the other hand, if the vote was a very close call and the minutes indicate some hesitation to cut rates any further, Gilts could continue their descent towards 107.50.

FX – GBP/USD

The British pound has barely managed to hold above trendline and 200 SMA near 2.01, with a break below that level opening up a very bearish scenario for the pair. Nevertheless, the uptrend remains intact but traders should beware Wednesday’s UK event risk could shake the pair up quite a bit. The release of the minutes from the Bank of England’s December meeting will be a key gauge as to the central bank’s next move in January, as a unanimous vote for the 25bp cut may suggest that more rate decreases are on the way. As a result, Cable could plummet to either test trendline support once again, or even break lower to target 2.00. On the other hand, a sharply divided vote could indicate that the Bank of England will be hesitant to cut rates again very soon, especially if commentary in the minutes focuses on inflation risks and resilience in the economy. In this case, GBP/USD could rally towards 2.0450.

Equities – FTSE 100 Index

Softer-than-expected UK CPI data helped the FTSE 100 bounce from Fibonacci support at 6,286, as the news raised speculation that the Bank of England would be able to cut rates again sooner. However, global equities continue to face downward pressure, and the FTSE 100 is no exception. Nevertheless, Wednesday’s release of the December Bank of England meeting minutes presents some risks for the index, as traders will be carefully watching how the monetary policy committee voted. If the overall vote was unanimous or very close to it, the markets may judge that the bank will be keen to slash rates again in Q1 2008, which would be supportive of the FTSE. On the other hand, sharp divisions within the MPC and commentary that notes upside inflation risks could send the index falling through support towards 6,176.

Terri Belkas is a Currency Strategist at FXCM.