Market sentiment remained cautious as diplomatic efforts to end the war showed little progress, while fresh hostilities heightened concerns about energy supply disruptions. Reports of an Iranian missile attack that damaged Kuwait’s airport and new U.S. military strikes near the Strait of Hormuz contributed to renewed uncertainty across financial markets.
The developments pushed oil prices higher, with Brent crude futures climbing to their highest level in a week as traders weighed the risks to one of the world's most critical energy transit routes.
UK More Vulnerable to Rising Energy Costs
Analysts note that the United Kingdom is particularly exposed to sustained increases in global energy prices because of its reliance on imported fuel. Although oil prices have retreated from the peaks recorded in late April, they remain significantly above levels seen before the outbreak of hostilities involving Iran and its regional adversaries.
Against this backdrop, sterling showed limited movement. The pound was last trading around $1.3447 against the dollar, down approximately 0.1 per cent and remaining within its recent trading range. Against the euro, the currency was broadly unchanged at 86.34 pence.
Markets Push Back Expectations for Bank of England Rate Hike
Investors have also adjusted their expectations regarding future interest rate moves by the Bank of England, with financial markets increasingly betting that policymakers can afford to delay further tightening while monitoring the impact of higher energy prices on the economy.
Money market futures are currently pricing in a quarter-point rate increase no earlier than September, while expectations for additional hikes later in the year have also moderated.
According to Gustav Helgesson, macro strategist at SEB, markets have effectively given the Bank of England time to assess the situation.
“The market has given the Bank of England a window to wait this out, as long as the Strait (of Hormuz) opens pretty soon,” he said.
“Obviously it will depend on what happens with underlying inflation, but as long as we don't see any big surprises there, the Bank of England could sit this out and, from a rate-differential perspective, this should weaken the pound.”
Diverging Central Bank Paths Influence Currency Markets
While the Bank of England appears likely to maintain a cautious approach, other major central banks are facing different policy considerations.
The European Central Bank is widely expected to raise interest rates at its next meeting, reflecting ongoing inflation concerns within the euro area.
Meanwhile, investors have begun bringing forward expectations for policy tightening by the Federal Reserve following a series of resilient U.S. economic indicators and signs of persistent price pressures.
The divergence in interest rate expectations has become a key driver of currency movements, influencing how investors position themselves in sterling, the euro and the dollar.
End to Conflict Could Boost Sterling
Analysts also suggest that a resolution to the conflict could provide support for the British currency by easing pressure on government finances and reducing inflation risks linked to energy costs.
For now, however, currency traders remain focused on developments in the Middle East, with the outlook for oil prices and central bank policy expected to remain closely intertwined in the weeks ahead.