Q3 at a glance: politics resets the risk map
Markets entered Q3 2026 with two overlapping stories still working themselves out. The first was a fragile ceasefire in the Middle East that had briefly let energy prices, inflation forecasts and central bank rhetoric settle down. The second was a change of government in Westminster, with Keir Starmer resigning as Prime Minister in June after his party’s confidence drained away, and Andy Burnham taking over the reigns.
Both stories reversed course before the quarter had properly begun. Renewed attacks on commercial shipping in the Strait of Hormuz have put the energy shock back on the table just as three central banks were digesting the last one. And a seventh Prime Minister in a decade inherits an economy already absorbing higher energy costs, a loosening labour market and a Bank of England split over what to do about it.
June delivered a series of noteworthy central bank decisions: the ECB’s first rate hike since 2023, the Federal Reserve’s first meeting under new chair Kevin Warsh, and a Bank of England hold that masked a widening internal split. Three more decisions land within eight days of each other before the end of July. For businesses with cross-currency exposure, the practical question isn’t which headline to believe. It’s how different approaches to managing currency risk, including hedging strategies, may perform depending on which factors ultimately matter.
What to watch
- A new Prime Minister, the same fiscal arithmetic. Andy Burnham inherits a fragile growth backdrop and an energy shock that predates his government. The market’s initial reaction to Starmer’s resignation was a small dip in sterling, but the pound has since strengthened as political uncertainty unwound faster than expected.
- A hawkish Fed, a hiking ECB, and a split Bank of England. Kevin Warsh’s first meeting as Fed chair produced no rate change but a materially more hawkish outlook. The ECB moved the other way in June, raising rates for the first time in three years. The Bank of England held, but only just.
- The ceasefire that wasn’t. Oil fell sharply through May and June as a US-Iran ceasefire held. Renewed strikes on Gulf shipping in July have reopened the question every business exposed to energy-linked input costs thought was closed.
Sterling: is the rally built to last?
Sterling’s Q3 story so far is one of political risk unwinding rather than economic fundamentals improving. Keir Starmer resigned as Prime Minister on 22 June, following a disastrous set of local election results and a loss of confidence within his own parliamentary party. Successor Andy Burnham is the UK’s seventh PM in a decade.
Markets had priced in a period of instability around the handover. Instead, cable has traded to a fresh three-week high even as Middle East tensions have resurfaced [1].
Sterling had a further boost from rumours that new PM Andy Burnham would appoint Shabana Mahmood, rather than Ed Miliband, as Chancellor. Markets read Mahmood as the more fiscally cautious choice, and the reports lifted both sterling, which touched a one-year high, and demand for UK government bonds [6]. However, in a surprise to many, former Defence Secretary John Healey was appointed instead, which only slightly weakened the pound.
That says more about the currencies it’s being measured against, and the political risk premium unwinding faster than expected, than about a newly confident UK economy.
Economic outlook: the same problems, a new inbox
UK headline inflation held at 2.8% in May, a calmer reading than March and April, when the Strait of Hormuz closure was driving sharp monthly increases. That calm looks temporary rather than a turning point: a scheduled OFGEM energy price cap rise, not yet reflected in the May figure, is expected to add over 0.7 percentage points to inflation in July [2a]. Inflation still remains significantly higher than the Bank of England’s 2% target. The figure the Monetary Policy Committee (MPC) watches most closely, services inflation, rose to 3.7% from 3.2% the month before [2]. Unemployment has continued to edge up to 4.9%, pointing to a labour market that is loosening even as price pressure persists [3].
The new Prime Minister inherits this combination largely unchanged. The energy shock behind it predates the change of government and will not resolve on a change of government either.
Interest rates: a seven-to-two hold
The MPC held Bank Rate at 3.75% at its 18 June meeting, but the 7-2 vote split, with two members preferring an immediate quarter-point hike, was the clearest signal yet that the committee’s hawks are gaining ground [4]. A Reuters poll of 65 economists, published ahead of the 30 July decision, found the majority still expect a hold through the rest of 2026, but almost 40% expect at least one hike [5].
The next decision, on 30 July, arrives alongside a full Monetary Policy Report and, in all likelihood, a new Prime Minister barely a fortnight into the job.
“A Burnham government is likely to be more growth-focused but still fiscally constrained”
Jamie Jemmeson, Head of Structured Products
Indicative rate context
According to the Reuters LSEG FX Forecast Poll (July 2026), the consensus outlook for GBP/USD has softened since June. The 3-month mean forecast has fallen from 1.3397 to 1.3281, the 6-month mean from 1.3453 to 1.3305, and the 12-month mean from 1.3526 to 1.3375, a downward shift of 115 to 150 pips across the curve. Contributors have also widened the downside: the 3-month low has moved from 1.2800 to 1.2700, and the 6-month low from 1.2600 to 1.2500. The top of the range has held steadier, with NatWest and Bank of America the most bullish contributors, forecasting 1.4120 and 1.4000 at the 6- and 12-month horizons respectively. Standard Chartered’s 3-month forecast sits at 1.2700 and Capital Economics’ 6-month forecast at 1.2500, among the more cautious views. Poll contributors point to the shift in US interest rate expectations following the Fed’s hawkish turn as the main driver.
For GBP/EUR, the poll shows a more mixed picture. The 1-month mean has moved up from 1.1501 to 1.1541, reflecting the recent move above 1.1600 in spot, while the mean further out points lower: 1.1478 at 3 months and 1.1395 at 12 months. Bank of America is the most bullish contributor, forecasting 1.1765 at 3 months and 1.1905 at 6 months, with UBS at 1.1678 at 3 months. Nomura and BNP Paribas are among the more cautious, with 6-month forecasts of approximately 1.1148 and 1.1364 respectively, and Capital Economics’ 12-month forecast at 1.0989. Across the 49 contributors polled at the 3-month horizon, the majority see GBP/EUR below current spot levels.
Key business highlights
- A change of Prime Minister has not changed the underlying inflation and labour market picture the MPC is responding to, especially with the Strait of Hormuz back in focus after the end of the three week ceasefire.
- The 7-2 MPC vote signals the hawks are gaining ground: a hike before year-end is a live possibility, not a tail risk.
- The 30 July decision, alongside a new Monetary Policy Report, is the next domestic catalyst for sterling, timed just as a new government finds its feet.
1. ExchangeRates.org.uk, weekly GBP/USD forecast, 13 July 2026
2. ONS, CPI and inflation data: ons.gov.uk
2a. NIESR, “The Calm Before the Inflation Hike,” niesr.ac.uk
3. ONS UK labour market bulletin: ons.gov.uk
4. Bank of England Monetary Policy Summary and minutes, June 2026: bankofengland.co.uk
5. Reuters poll of 65 economists, reported ahead of the 30 July 2026 MPC decision
6. Bloomberg, “Burnham Set to Name Mahmood as UK Chancellor, Reports Say,” 15 July 2026
US dollar: has the Fed’s new era repriced it for good?
Kevin Warsh’s first meeting as Federal Reserve chair, on 17 June, left interest rates unchanged at 3.50-3.75%, but changed almost everything else about how the Fed communicates. The policy statement was cut to roughly 130 words and forward guidance was dropped entirely. The closely watched dot plot flipped from an implied rate cut in March to a hawkish lean, with nine of eighteen officials now projecting a hike before year-end and six of those projecting two [1].
For businesses managing dollar exposure, the practical effect has been a dollar that is stronger for reasons that have nothing to do with the Middle East. The Dollar Index broke above 100 in June for the first time since May 2025, and this time the move has been about interest rate expectations rather than Middle East safe-haven demand [2].
Economic outlook: inflation high, labour market resilient
US headline CPI hit 4.2% in May, the highest since April 2023, though core inflation excluding food and energy was a firmer 2.9%, evidence the spike is still substantially energy-led [3]. Nonfarm payrolls added 172,000 in May, defying expectations of a slowdown, with unemployment steady at 4.3% [4]. The most recent release, however, was a disappointing 57,000 nonfarm payrolls added in June, well below consensus expectations of around 110,000-115,000, with the unemployment rate at 4.2% [4a].
That combination, hot headline inflation alongside a labour market that refuses to crack, is precisely what makes the case for cutting rates hard to sustain, whatever the political pressure to do so.
Interest rates: a hawkish hold from a new chair
The Federal Open Market Committee voted 12-0 to hold rates in Warsh’s first meeting [5]. Warsh has argued publicly that supply-shock inflation should generally be looked through, and that AI-driven productivity gains will prove disinflationary over time. The committee he now chairs has, for now, moved the other way on its own projections.
The next FOMC decision falls on 29 July, one day before the Bank of England’s own meeting.
“A hawkish Fed may result in higher-for-longer borrowing costs, worsening cash flow and debt servicing.”
Jamie Jemmeson, Head of Structured Products
Indicative rate context
The Reuters LSEG FX Forecast Poll (July 2026) shows the most significant downward revision among the three pairs for EUR/USD. The 3-month mean sits at 1.1570, with contributor forecasts ranging from 1.1200 to 1.2200. At the 12-month horizon, the range widens further, with the low end at 1.0500, a level last seen in 2022–2023, and the mean at 1.1752. Contributors point to the combination of a hawkish Fed and ongoing uncertainty around US trade policy as the primary driver of the wider range.
Key business highlights
- Dollar strength has shifted from a Middle East safe-haven story to a Fed rates story, and the two won’t necessarily move together from here.
- Nine of eighteen FOMC officials now project a 2026 hike, a sharp reversal from the March projections.
- Businesses that budgeted around an expected 2026 Fed cut may wish to assess the potential impact of evolving market expectations on their budget rate assumptions and any existing hedging arrangements
1. Federal Reserve, FOMC statement and Summary of Economic Projections, 17 June 2026: federalreserve.gov
2. ICE US Dollar Index data
3. US Bureau of Labor Statistics, CPI news release, May 2026: bls.gov
4. US Bureau of Labor Statistics, Employment Situation, May 2026: bls.gov
4a. US Bureau of Labor Statistics, Employment Situation, June 2026: bls.gov
5. Federal Reserve Summary of Economic Projections, June 2026: federalreserve.gov
Euro: can the hiking cycle outrun the energy shock?
The European Central Bank raised its deposit rate by 25 basis points to 2.25% on 11 June, its first increase since 2023, and a decisive reversal of the easing cycle that had run since mid-2024 [1]. The move came as eurozone inflation hit 3.2% in May, its highest reading since September 2023, with core inflation also climbing to 2.5% [2].
It would be reasonable to expect a rate hike to lift a currency. Instead, EUR/USD eased over the same period, a sign the dollar’s own rates story has been the dominant force in the pair this quarter, more so than the ECB’s [3].
Economic outlook: hiking into a slowdown
Eurozone growth remains weak. The ECB’s own staff projections put 2026 GDP growth at just 0.8%, revised down to reflect the energy shock’s impact on commodity markets, real incomes and confidence [4]. By June, headline inflation had eased back to 2.8% and core to 2.4%, and President Lagarde struck a notably calmer tone at the ECB’s Sintra forum, noting that risks to both inflation and growth had diminished as oil retreated on the earlier ceasefire [5]. That contrasted with Bank of England Governor Andrew Bailey’s own remarks at the same forum, where he said rate cuts were “off the table at the moment,” warning that UK households had yet to feel the full effect of the Iran war [5a].
That calmer read is now being tested again by the renewed escalation in the Gulf.
Interest rates: a second hike back on the table
Markets had priced in more than two quarter-point hikes for 2026 heading into June. With one delivered and inflation cooling through to late June, the odds on a September follow-up had briefly eased, helped by a calmer tone from President Lagarde at the ECB’s Sintra forum. That has since reversed: the renewed spike in oil prices from fresh Gulf shipping attacks has pushed markets back to pricing around a 70% chance of a September hike [6]. The ECB’s next decision falls on 23 July, ahead of both the Fed and the Bank of England.
“Despite the ECB hike, a change in the FOMC outlook for rates has narrowed interest rate differentials.”
Jamie Jemmeson, Head of Structured Products
Key business highlights
- The ECB has hiked for the first time in three years, but the euro has not rallied on it. The dollar’s own rate path matters more to EUR/USD right now.
- Growth remains fragile; the ECB is tightening into a slowdown rather than a recovery.
- A September hike is now priced as more likely than not, at around 70% probability, reversing the brief dovish read from Sintra as Gulf tensions have resurfaced.
1. European Central Bank, monetary policy decision, 11 June 2026: ecb.europa.eu
2. Eurostat, flash HICP estimate, May 2026: ec.europa.eu/eurostat
3. ECB reference exchange rates: ecb.europa.eu
4. ECB staff macroeconomic projections, June 2026: ecb.europa.eu
5. ECB press conference, Sintra Forum, July 2026: ecb.europa.eu
5a. Bloomberg, “Bank of England’s Bailey Says Rate Cuts Are Still Off the Table,” 1 July 2026
6. Trading Economics, Euro Area Interest Rate, updated 13 July 2026
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