Sterling Edges Higher as Mideast Tensions and Oil Prices Boost Hawkish Fed Bets

The British pound edged higher on Thursday, but the dominant theme in currency markets was a supported U.S. dollar, which gained as rising oil prices following U.S. airstrikes in the Middle East bolstered expectations for a hawkish Federal Reserve.

As of 07:57 ET, the GBP/USD currency pair rose slightly to 1.3390, while EUR/USD climbed to 1.1429. The gains for both currencies were limited by the dollar's underlying strength.

Geopolitical Tensions Bolster Dollar

The dollar found support after U.S. forces conducted strikes on infrastructure targets in northern Iraq, according to reports. The escalation in geopolitical tensions pushed the price of Brent crude oil briefly above $80 a barrel.

Analysts noted that higher energy costs could contribute to inflationary pressures, giving the Federal Reserve more reason to delay interest rate cuts. "Higher energy prices will provide fuel for the Fed hawks and keep the dollar supported on dips," said Chris Turner, Global Head of Markets at ING, in a note. The Dollar Index (DXY), which measures the greenback against a basket of major currencies, traded near the 101 level.

Sterling and Euro Dynamics

Sterling's advance was not driven by UK-specific fundamentals, according to ING. The firm noted that the move mirrors a pattern seen during previous geopolitical flare-ups, where the sterling money-market curve adjusts more sharply than its eurozone equivalent.

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The euro, meanwhile, has "held up remarkably well" given the spike in oil prices, ING said. Its resilience is partly attributed to growing bets that the European Central Bank (ECB) will hike rates again in September. Money markets are currently pricing in a 22 basis point increase for that meeting.

Market Outlook

Looking ahead, ING suggested that the Federal Reserve's policy path will likely remain the more dominant driver for currency markets. The firm projects the DXY could climb toward the 101.50 area, potentially pushing EUR/USD back below the 1.14 level.

Investors are now awaiting several key events for further direction, including:

• A speech from New York Fed President John Williams later on Thursday.
• The release of U.S. June Consumer Price Index (CPI) data next Tuesday.
• Testimony from Fed Chair Kevin Warsh to the House on Wednesday.