On Tuesday, the GBP/USD pair fell again after new US CPI data showed rising inflation. In July, the British Pound has dropped almost 3% against the US Dollar. On that day, the pair fell by two-thirds of a percent, marking the eighth day in a row of losses. The US Dollar strengthened as inflation concerns raised questions about when the Federal Reserve might cut rates.

US CPI Inflation

The US CPI inflation rate rose at the end of the second quarter, reaching an annual rate of 2.7% in June. This is above the Federal Reserve’s 2% target, reducing hopes for an early rate cut. The CME’s FedWatch Tool suggests the Federal Reserve will keep interest rates steady at its July meeting. The chance of rates staying the same in September is now down to 44%. The Fed uses interest rate changes to aim for price stability and full employment. When inflation exceeds 2%, the Fed raises rates, which strengthens the US Dollar. Conversely, when inflation falls below 2%, it lowers rates to stimulate growth. Additionally, quantitative easing (QE) may weaken the US Dollar, while quantitative tightening (QT) is likely to strengthen it.

Derivative Trading Dynamics

In light of these factors, it’s becoming clearer what derivative traders should do. The differences in monetary policies across the Atlantic are the key focus. With US inflation remaining high and the Federal Reserve staying steady, the situation is intensified by developments in the UK. The Bank of England is expected to cut interest rates at its August meeting, creating a noticeable policy gap that drives currency movements. This is not only about a strong dollar but also about a weakening pound. Thus, our strategy should target a continued decline in the GBP/USD. We suggest acquiring put options on the GBP/USD as a direct and managed approach. Recent data supports this view. The latest US Non-Farm Payrolls report showed a strong gain of 272,000 jobs in May, exceeding expectations and giving the Fed more reasons to hold steady. Currently, the CME’s tool indicates the likelihood of a September rate cut has fallen to just 35%, showing a notable shift in expectations. If we look back, a similar but more intense policy divergence occurred in 2022, when the Fed’s rapid rate hikes drove the Dollar Index (DXY) to two-decade highs. While the situation differs in scale, the basic principle remains: a hawkish Fed and dovish other central banks will lead to more investments in the dollar. Data from the Commodity Futures Trading Commission (CFTC) shows that large speculators have been increasing their net short positions on the British Pound for several weeks. We expect this trend to push the GBP/USD down to around the 1.2250 level soon, and our option strategies should be set up to benefit from this movement. Create your live VT Markets account and start trading now.

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