The UK Consumer Price Index (CPI) for August went up by 3.8% compared to last year, which was expected. Core CPI also met predictions, rising by 3.6%. A significant reason for the drop in core annual inflation was airfare prices, which increased by 2.1% from July to August 2025. This is much lower than the 22.2% increase during the same time last year. This change happened because the holiday season started earlier in July this year, affecting the timing of the index.

Inflation Trends

Services inflation slightly decreased from 5.0% to 4.7% in August. Meanwhile, goods inflation rose a bit from 2.7% to 2.8%. Despite these changes, overall inflation remains high. These trends are unlikely to influence the Bank of England’s current stance. Core prices stay elevated, and services inflation is only gradually slowing. Goods inflation also keeps the overall inflation rate high. The inflation data for August was exactly as anticipated, indicating minimal market disruption. As a result, we expect implied volatility on short-term interest rate options and gilt futures to decrease in the coming days. This situation could allow traders to sell options, betting that prices will remain steady now that this important data has come in as expected. With the Bank of England’s key interest rate at 4.00%, this data does not support a rate cut. Services inflation, even at a slightly lower rate of 4.7%, is the main reason we think the BOE will keep rates steady throughout the winter. Consequently, traders will likely shift expectations for the first rate cut from late 2025 to early 2026.

Market Implications

The market had priced in a small chance of a rate cut by December, but we now expect this to change. There’s an opportunity to bet on short-term interest rates staying stable by selling SONIA futures contracts that expire in early 2026. Remember how slowly the BOE responded to the inflation surge in 2022? They will likely be extra cautious about cutting rates too soon now. Concerns about persistent prices are supported by recent labor market data, which showed UK wage growth at a solid 5.5% in July. This ongoing wage pressure directly contributes to the high services inflation the BOE wants to manage. Without a significant slowdown in the job market, it’s challenging to make a strong argument for lowering interest rates. For the pound, a stable interest rate outlook should provide solid support against other currencies. While we don’t expect a major surge in value just from this news, the sterling should remain strong, especially against currencies where central banks may cut rates sooner. Traders could think about buying GBP/USD call options with a three-month expiry to benefit from this relative strength. Create your live VT Markets account and start trading now.

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