Surprise UK CPI Drop Sends FTSE Soaring

The ONS surprised with inflation falling more than expected, weakening the pound and giving the FTSE a boost on the back of real estate stocks.

Still the Outlier

Economists expected annual UK inflation in June to fall to 8.2% from 8.7% in May, but it fell further to 7.9%, surprising the market. The market gave up on its forecast that rates would peak above 6.0%, providing instant relief to homebuilders and property-related stocks, which saw the biggest rise since the Great Financial Crisis. Following the data, the market expects the BOE to hike by 25 bps at its next meeting, compared to the anticipated 50bps before the data release.

Core inflation, which the BOE more closely tracks, also showed optimistic signs, dropping to 6.9% from 7.1% in May, a 30-year high. But the UK remains an outlier among G7 countries with the highest inflation, as the BOE keeps returning divided votes on rate hikes. The issue of pay has become increasingly relevant, with labour market tightness seen as a major obstacle for the BOE to get inflation down, potentially putting at risk the newfound optimism among traders that the aggressive rate hikes are over.

Getting the Money in Order

The BOE has hiked 13 times in a row this cycle, increasing mortgage costs. Major homebuilders such as Barratt and Hargreaves have felt the pinch as the cost of financing new homes puts homeownership out of reach for some or on hold, waiting for prices to come down. Mortgage rates peaked at their highest in 15 years, and higher rates would worsen the situation. Thus, the relief among the property sector in the hope that no more than 75bps of hikes would come.

The biggest drag on headline inflation was fuel prices, down 23% since last year, as the disruptions caused by the war in Ukraine started even out. But in recent weeks, crude prices have started to creep back up after successive production curbs by Saudi Arabia and Russia. If the trend continues, it could erase some recent gains in lowering inflation. In a somewhat ironic twist, the lower inflation contributes to a weaker pound, which raises imported goods’ cost. Those factors could contribute to this inflation result being a one-off. On the other hand, it supports the UK’s 100 index, as lower rates take the pressure off corporates.

Footsie Left I-H&S Behind

Footsie failed to extend to the 7200 low a couple of weeks ago as it started to ascend from 7225 to reach a high of 7625 only yesterday. The upside appears supported by an inverse head-and-shoulders pattern, pending further advances towards 7900 via the successful penetration of 7755. Bulls remain at ease at this state as the index trades comfortably away from the shoulder-low of 7400 but may start to feel pressure around 7480 if price action is reversed.

Source: SpreadX / UK 100

Key Takeaways

In June, UK inflation falling more than expected led to a boost in FTSE, driven by real estate stocks. Fuel prices have been a major drag on headline inflation, but recent increases in crude oil prices may reverse the downward trend. The tight labour market is seen as an obstacle for the BOE to lessen inflation, potentially putting the recent optimism about hiking only 25bps  instead of 50bps expected prior on hold. Core inflation also dropped slightly, but the UK still has the highest inflation among G7 countries. Lower inflation contributes to a weaker pound, which raises the cost of imported goods. These factors support the FTSE 100 index and relieve pressure on corporations.