Following a sunny (in parts) UK bank holiday weekend and significant losses for the ruling Conservative party in local elections, GBP has remained resilient, kicking off the week with strength against the USD, though early signs suggest demand may be waning.  The upcoming monetary policy meeting of the Bank of England (BoE) on Thursday holds the spotlight, with analysts and investors debating the likelihood of a rate cut in either June or August.

Market dynamics, particularly in the US, leaning towards a hawkish policy stance, have influenced recent trends, which haven't been entirely favourable for GBP’s pro-cyclical nature.  Following the March BoE meeting, expectations for rate cuts totalled nearly three 25 basis point reductions by year-end.  Presently, only one cut is fully priced in, with slightly over a 50% chance of a second. However, after a dovish Federal Reserve meeting and a softer US jobs report last week, attention shifted back to the increasing odds of Fed rate cuts in 2024.  This led to a narrowing of US-UK yield spreads, allowing GBP/USD to climb for the second consecutive week, now up over 2% from its 5-month low near $1.23.

While the BoE is anticipated to maintain interest rates this week, uncertainty looms over whether it will signal a potential pivot as early as June, despite services inflation and wage growth slightly surpassing previous forecasts.

BoE Governor Andrew Bailey recently underscored the differing inflation outlooks between the US and UK, suggesting a rate cut could be on the horizon by summer.  This hints at possible downgrades to inflation projections and further dovish adjustments in forward guidance.  Such developments might dampen the pound's recent upward momentum.

Nonetheless, the broader market sentiment towards rate cuts by major central banks, including the G3, is likely to provide support for pro-cyclical currencies like GBP.

The euro continues to hover around the $1.07 mark, maintaining its downward trajectory against the US dollar, largely influenced by investors favoring the more dovish stance of the ECB compared to the Fed. European stock markets experienced a dip, with the broad European equity index closing 0.5% lower, marking the third decline this week. France's CAC 40 saw a sharper drop of nearly 0.9%, hitting its lowest point since February, as markets reopened post a midweek European holiday and analysed the Fed's rate decision. German bond yields mirrored movements in US treasuries, declining across the yield curve.

Despite being somewhat overlooked by markets, Eurozone manufacturing sectors faced a seventh consecutive month of contraction in April, marking its longest downturn since 2013. Input costs and output charges continued to decrease, while business sentiment showed improvement for the second consecutive month, reaching its highest level since February 2022. In other European news, the Swiss franc surged against both the US dollar and the euro following a higher-than-expected inflation report, leading to a reassessment of looser policy expectations by the SNB. Annual inflation in April rose to 1.4% from a 2 ½ year low of 1% in the previous month. Concerns over the pace of inflation acceleration, despite warnings from the SNB about a bumpy recovery, raised doubts about the likelihood of another rate cut in June. Meanwhile, the Czech National Bank reduced its two-week repo rate by 50 bps to 5.25%, citing ongoing disinflation and economic weakness.

In terms of technical analysis, EUR/USD has entered a new range-bound phase since March 23rd, fluctuating within a ±50pip range centered around $1.07. Currently, the 21-day SMA at $1.0715 seems to limit further euro gains, while the 100-week SMA at $1.0630 acts as a robust support level. However, this pattern could face challenges from seasonal trends, as historical data indicates the euro tends to depreciate by an average of 0.68% against the Greenback in May since 1971.

Yesterday's Federal Reserve meeting drew considerable attention, but it was the suspected intervention by Japanese authorities that stole the spotlight. Within minutes, the Japanese yen surged over 2%, sending shockwaves through FX markets.

Seizing the opportunity presented by weaker-than-expected US macro data and a neutral Fed meeting, the Japanese Ministry of Finance (MoF) intervened in FX markets for the second time in a week. The intention behind this move appears to be twofold: to surprise speculators and render interventions more unpredictable. As a result, USD/JPY plummeted sharply from ¥157.55 to precisely ¥153, while GBP/JPY, having reached ¥200 on Monday, dipped below ¥192. This drastic fluctuation across multiple JPY crosses marked another significant event in the market.

Although the yen has already retraced a portion of its gains, both USD/JPY and GBP/USD saw nearly a 1% increase this morning. This intervention contradicts the notion of a specific threshold and suggests that the MoF and Bank of Japan are aiming to keep markets on their toes, making policy decisions more erratic and betting against the yen more challenging.

Today's spotlight is on the US Federal Reserve's Open Market Committee meeting, a pivotal event following a slew of significant data releases in the US. Although no rate adjustments are anticipated, there's a notable uptick in the likelihood of a hawkish stance from the Fed, especially in rhetoric. April marked the fourth consecutive month of the US dollar's ascent, fueled by surging US yields reaching five-month highs on the prevailing narrative of prolonged hawkishness from the Fed.

The Fed's reliance on data adds an element of uncertainty to forecasts regarding monetary policy trajectory. Any deviation, particularly in inflation, from the central bank's projections could prompt a reassessment. With the three-month average job growth standing at 244 thousand and three-month annualized core inflation at 4.5%, it's probable that Fed officials will maintain the status quo on rates for several meetings. Notably, the employment cost index, the Fed's favored gauge of labor expenses, spiked by 1.2% in the first quarter, surpassing expectations and emphasizing persistent wage pressures, which could exacerbate ongoing inflationary concerns in the US economy. This further bolsters the case for a hawkish tilt from the Fed today. Notably, Fed Chair Jerome Powell omitted the suggestion of potential interest rate cuts "likely being appropriate" at some stage this year during the last meeting, raising questions about the possibility of rate hikes this time. Market sentiment has significantly reduced expectations for rate cuts in 2024, now projecting less than two cuts, a stark contrast from the six anticipated at the beginning of the year. There's even a 25% chance that the Fed won't cut rates at all this year.

Ahead of the Fed's decision, the release of the ISM manufacturing PMI survey and JOLTS job openings data could add further volatility to today's proceedings. Last month's ISM data led to three key observations: firstly, that the manufacturing sector seems to be stabilizing while the services sector may have peaked; secondly, that the US dollar remains responsive to macroeconomic indicators; and thirdly, that concrete data points have a greater impact on the dollar compared to softer indicators.