The British pound and euro fell sharply against the dollar on Friday as investors slowed to the perceived safety of the dollar amid expectations for higher U.S. interest rates.
The British pound fell nearly 2% to $1.1037 - a 37 year low as the government announced that it would cut taxes and U.K. gilt yields TMBMKGB 10 Y, a 37 year low. The euro EURUSD fell 0.8% to $0.9759, dropping below $0.98 for the first time.
As investors scrambled for safe havens, the Fed's 75 basis point interest rate hike and hints of more to come, the U.S. Dollar Index DXY went to its highest since May 2002 at 112.04, as the US Dollar Index fell to its highest since May 2002 at 112.04
After Thursday s lower than anticipated Bank of England hike by 50 bps, sterling s weakness came after the Bank of England hike fell by 50 bps. Friday saw U.K. finance minister Kwasi Kwarteng unveil a mini-budget, with some analysts underwhelmed by what was revealed.
George Saravelos, Deutsche Bank's global head of FX research, worried that the pound's weakness would erode investor confidence in the UK's external sustainability. Peter Iosif, analyst at Noteris Services and author of Iron FX DailyFX Daily, said that we view the program as inefficient and the U.K. government's intentions to increase our worries for public debt, which is already high.
If there was confidence that a loose fiscal and tight monetary policy can be funded, the budget's impact on foreign exchange markets could be positive, ING analysts say.
There is the rub that investors are doubts about the UK's ability to fund this package, hence the gilt underperformance, says Chris Turner, ING analyst.
The euro was buckling due to dollar strength and the fear that the latest developments in Ukraine will worsen the energy crisis after Russian President Vladimir Putin announced a partial mobilization of troops and threatened to defend its territories with nuclear weapons.
The release of the Eurozone purchasing managers index PMIs on Friday hasn't bolstered analysts' outlook.
In September, the Eurozone's conditions worsened to a 20 month low. The September PMI reading fell to 48.2 from 48.9 in August, with readings below 50 indicating deteriorating conditions.
A hawkish Fed has prepared markets for a prolonged hiking cycle while Europe's recessionary outlook due to ballooning energy prices should increasingly favor a lower EURUSD, according to UBS Global Wealth Management head Thomas Flury and senior US economist Brian Rose.
After consumer confidence figures hit a record low and the Italian elections coming over the weekend, which may elect a far-right Eurosceptic political party, European sentiment is expected to stay relatively weak.
Losif said if the result shows political instability or a new government that is to be Eurosceptic and/or populist, the common currency may retreat on Monday morning.