Pound galvanised thanks to weak US inflation

17 July 2017

Investors hoping to capitalise on a weak pound and strong dollar for dividend growth see hopes of increasing pay-outs falter as dollar drops to 10-month low.

The pound rose to a 10-month high against the dollar on Friday thanks to weaker than expected inflation data from the US economy. According to the data, inflation in the U.S. stood still at 1.6%, compared to much higher 2.9% in the UK. While the pound’s relative strength against the dollar has increased, this is due to the US currency dropping, rather than the pound strengthening overall.

The result has led to a softening of language from Federal Reserve chief Janet Yellen who remarked that inflation risks are now “two-sided” in the US. This means the Federal Reserve now believes that inflation could go down as well as up, which would justify keeping US rates on hold for longer than previously expected.

In contrast, the UK could now see a more aggressive approach to interest rates, thanks to the highest increase in inflation in four years.

The weak economic data will put an unexpected dent in UK investors’ hopes of capitalising on a strong dollar and a weak pound to achieve good returns on investments through dollar dividend paying FTSE 100 listed companies.

Michael Baxter, Economics Commentator for The Share Centre comments, “US interest rates are now much higher than in the UK, furthermore, this is likely to remain the case for some time. Seen in this context, the new views coming out of the UK and US central banks may not seem especially radical, but the markets have been surprised. They had priced in a quite different prognosis for UK and US rates for the next few months, and when the markets are surprised in this way, currency markets can be affected.

“Much depends on what happened to UK inflation in June – and we will have an answer to that next week.”

Mark Sherlock, lead portfolio manager of the Hermes US SMID Equity Fund comments “We believe the macro-economic picture remains constructive for US companies - a healthy consumer, historically low unemployment, a stabilised industrial economy and, importantly, rising global GDP.

“This benign backdrop can continue to support earnings growth for some time and we expect will drive further market appreciation irrespective of stimulative fiscal and economic policies.”

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