The euro surged to nearly a five-week peak of $1.0826, marking its strongest performance in over a week, as demand for the dollar eased despite uncertainties surrounding US PPI data, deepening speculation on the Fed's rate cut trajectory. European stock indices remained steady, with investors awaiting the April US CPI figures for further guidance.

Internally, the latest ZEW survey revealed encouraging signs, suggesting that the worst of the economic downturn in the region may be over. Germany's ZEW investor sentiment index soared to 47.1 in May, supported by rising real incomes, improved domestic consumption, and recovering export demand. While this marks the gauge's tenth consecutive monthly increase and its highest level since February 2022, the current component of the ZEW remains subdued, underscoring lingering growth risks as the industrial sector struggles to rebound. Expectations of a June ECB rate cut continue to drive optimism, with ECB's Knot reiterating the possibility of monetary easing at the upcoming meeting, echoing sentiments expressed by Fed's Powell at the Annual FBA meeting.

EUR/USD breached its 200-day SMA following the release of higher-than-expected US PPI data, injecting much-needed volatility into the market. The pair is now eyeing its 100-day SMA around $1.0826, with overnight option implied volatility reaching a 14-month high of 12.85%. A further uptick in volatility could propel euro bulls towards $1.0900, signaling a break from the bearish trend observed since March. Investors are adjusting their positions in anticipation of a stronger euro, reflected in the most bullish 1-week EUR/USD risk reversals since February, as expectations of softer US inflation align monetary policy outlooks on both sides of the Atlantic. Hedge funds have significantly reduced their short positions on the euro by approximately 40% over the past month, according to the latest CFTC data. As of now, the implied probability of an ECB rate cut next month remains steady at around 95%, with markets pricing in 68 basis points of cuts by year-end, compared to the Fed's projection of 54 basis points.

Today, investors faced a challenging scenario with the release of the May labour report by the ONS, revealing a mix of elevated wage pressures and increasing unemployment. As the data unfolded, it became evident that despite the surge in wages, the Pound's response highlighted a clear prioritization: the significance of rising unemployment.

Following the ONS announcement that UK wages, including bonuses, soared by 5.7% in March compared to the anticipated 5.3%, GBP strengthened against the EUR, reaching 1.1642. Excluding bonuses, the wage increase surged even higher to 6.0%.

These numbers precede the expected rise in the minimum wage in April, indicating that wage pressures persistently outpace inflation. This trend might sustain elevated domestic inflation in the UK, potentially deferring any interest rate reductions.

However, despite the initial gains, the Pound experienced a reversal, resulting in losses, with GBP/EUR pair declining to 1.1614, down by 0.20% for the day.

Similarly, GBP/USD exchange rate initially climbed to 1.2558 before retracting to 1.2519. This retreat is attributed to indications of weakening labour market conditions evident in other data releases throughout the day: the UK economy shed 177,000 jobs in the three months leading to March, up from 156,000 in the preceding period. Concurrently, the unemployment rate edged up to 4.3% from 4.2%.

This implies that the potential for wages to rise to levels that generate inflation is constrained, and investors anticipate a significant cooling down as a consequence. In essence, if there's an ample pool of job seekers available, businesses won't feel compelled to retain excess labor.

Currently, foreign exchange markets are opting to overlook the high wage numbers, as evidenced by the Pound's relatively muted reaction.

Last week witnessed a retreat of the Pound Sterling, reflecting investor anticipation of the Bank of England signalling an imminent interest rate cut, a move which was subsequently confirmed during Thursday's policy update.

The Bank has articulated its intention to carefully assess the next two wage and inflation releases before determining the suitability of a rate cut in June. Consequently, if Tuesday's crucial wage figures from the ONS indicate a weaker-than-expected outcome, we should anticipate a resurgence of GBP weakness in the days ahead.

As market sentiment increasingly leans towards the likelihood of a June rate cut, GBP/EUR could experience further downside. Currently, market-derived expectations for a June rate cut stand at 45%, leaving considerable room for recalibration that could exert pressure on the exchange rate.

However, should earnings growth surpass the anticipated 5.3% year-on-year figure, we might witness a notable rebound in Pound-Euro towards the 1.17 mark in the near term.

Examining the charts, GBP/EUR finds support just above the 200-day moving average at 1.1618. Furthermore, downward momentum in GBP/EUR has somewhat abated, partly due to Sterling's post-GDP recovery on Friday. These technical signals hint at the emergence of support levels, implying a higher threshold for further weakness going forward.

Already positioned below its 2024 comfort zone, the exchange rate is poised for a potential 'mean reversion' in the upcoming days, contingent upon data releases. However, we do not anticipate the attainment of 2024 highs in the near future, given the market's requirement for convincing evidence that a June rate hike is off the table. Such evidence hinges significantly on forthcoming inflation data.

The impending inflation release in two weeks carries substantial weight, as any shortfall could tilt the probability of a June hike beyond the 50/50 mark, consequently pressuring Sterling as the month draws to a close.

It's crucial to note that the labour market and inflation figures for June will precede the Bank of England's decision, underscoring the pivotal role of forthcoming data in addressing uncertainties surrounding a June hike.