Sterling edged off a three-week low against the dollar on Monday, lifting GBP/USD back towards the mid-1.3300s after earlier losses in Asia. The move came as dollar buying paused, even after the USD Index (DXY) reached a two-week high on Friday following a stronger US Nonfarm Payrolls (NFP) report. The data showed 172K jobs added in May versus 85K expected, while April was revised to 179K; the Unemployment Rate stayed at 4.3%, offsetting a slowdown in Average Hourly Earnings to 3.4% year on year from 3.6%.
Broader support for the greenback remained in place, with higher energy prices linked to the war adding to inflation concerns and reinforcing hawkish Federal Reserve expectations. CME Group’s FedWatch Tool indicates over a 70% probability of at least a 25 basis point rise in borrowing costs in 2026. Political uncertainty in the UK, with a leadership challenge confronting Prime Minister Keir Starmer, also weighed on GBP sentiment, while Middle East risks stayed elevated after President Trump urged Israel’s Prime Minister Benjamin Netanyahu not to strike Iran following three waves of ballistic missiles at Ramat David air base, even as Washington and Tehran remain divided over the nuclear programme and the Strait of Hormuz.
Dollar Strength and Policy Divergence
Given the strong underlying trend in the US dollar, we see the current small recovery in the British Pound as a temporary pause. This presents a potential opportunity for us to position for further downside in the GBP/USD pair. The fundamental drivers supporting a strong dollar appear far more compelling than this minor bounce.
The recent US jobs report, which added 172,000 jobs against an expectation of only 85,000, reinforces our view that the Federal Reserve will remain hawkish. This is further supported by the latest US Consumer Price Index data, which came in at 3.5%, keeping pressure on the central bank to maintain a tight policy. The CME FedWatch Tool now indicates an 85% probability of at least one rate hike by the September 2026 meeting, a factor that should continue to attract capital to the dollar.
On the other side of the pair, the pound is facing headwinds from political instability surrounding Prime Minister Keir Starmer’s leadership. We only have to look back to the market turmoil of the 2022 mini-budget crisis to see how severely UK political uncertainty can punish the currency. This historical precedent suggests that any rallies in the pound may be short-lived and met with selling pressure.
This creates a clear policy divergence, as sluggish UK Q1 GDP growth of just 0.2% gives the Bank of England little room to match the Fed’s aggressive stance. The combination of a proactive Fed and a cautious BoE is a classic recipe for weakness in the GBP/USD exchange rate. The ongoing geopolitical tensions in the Middle East only add to the dollar’s appeal as a safe-haven asset.
Trading Implications and Strategy
For the coming weeks, we are looking at strategies that benefit from a falling GBP/USD and potentially higher volatility. We believe buying put options is a prudent way to express this bearish view while strictly defining our maximum risk. Alternatively, for those looking to generate income, selling out-of-the-money call spreads could take advantage of range-bound action before the next move lower.
