LONDON - Sterling slid against the dollar on Thursday after the Federal Reserve jacked up interest rates again, and as traders awaited the latest decision from the Bank of England (BoE).
The greenback rose along with U.S. bond yields after Fed Chair Jerome Powell signalled that interest rates were likely to have to rise higher than expected to crush inflation.
The dollar's rise was particularly pronounced against the pound, with traders selling sterling in expectation the BoE would strike a less aggressive tone than the Fed.
In morning trading in London, sterling slumped 1.26% to $1.1247, its lowest since Oct. 21. The euro was also stronger against the pound, rising 0.42% to 86.54 pence.
The Fed raised interest rates by 75 basis points (bps) for the fourth consecutive meeting on Wednesday, taking the target range to 3.75% to 4%.
The BoE was widely expected to raise borrowing costs by an historically large 75 bps to 3% later on Thursday (1200 GMT). Yet some analysts said there was a slim possibility of a smaller 50 bps hike, given that the BoE is grappling with a weak economy and uncertainty about fiscal policy.
"We expect the BoE to signal that a larger hike today is unlikely to be the first of a series of larger hikes," said Lee Hardman, currency analyst at MUFG, in a note to clients. "It should encourage a weaker pound."
New Prime Minister Rishi Sunak has pushed back the government's fiscal statement to Nov. 17, adding to the uncertainty around the BoE decision. The government is expected to announce tax rises and spending cuts, potentially further weighing on growth.
Michael Quinn, senior trader at Monex Europe, said the drop in sterling was driven by bets that the BoE will struggle to raise rates as high as the Fed. Higher rates - or the expectation of them - traditionally boost a country's currency by making investments there look more attractive.
"The story is definitely moving from central banks pivoting to central bank policy divergence. The fundamentals in the U.S. are certainly more robust and healthy than in Europe," he said. "It's a pretty grim scenario for sterling at the moment."
Powell signalled on Wednesday that the Fed may step down the rate at which it raises borrowing costs, leaving the door open for a 50 bps hike in December. But he also said the peak in rates was likely to end up higher than traders expect.
The dollar index was up 0.78% to a two-week high of 113.01.
According to futures market pricing, traders think it's almost certain the BoE will raise rates by a lower 50 bps in December. Yet they think there's a 58% chance the Fed opts for another 75 bps hike.
(Reporting by Harry Robertson Editing by Mark Potter and Kim Coghill)