FTSE drops as super-hot inflation sends UK yields higher

The big news this morning was from the UK and unfortunately it was not good: UK inflation topped double digits for the first time in 40 years. The Bank of England was correct, for once. Markets reacted negatively to the news with the FTSE and other European indices falling. GBP/USD rose then fell with the dollar finding support on haven flows amid growth concerns.

Headline UK CPI raced to +10.1% year-over-year in July vs. 9.4% last and 9.8% expected. Core inflation also rose sharply to +6.2% vs 5.9% expected. Inflation was boosted by rising food and drink prices, which made the biggest contribution to the change in the inflation rate.

The data sent UK bond yields sharply higher, as investors feared aggressive hikes will be on the way from the UK.

Rising interest rates are expected to hold back an economy already struggling. As the cost of living continues to rise – with food, raw materials and energy all costing more – household and business incomes will be squeezed. This should mean lower economic output. The BoE thinks we are headed for 5 quarters of negative growth. Against this backdrop, UK stocks should struggle you would think.

It is worth keeping a close eye on the FTSE in the coming days after its impressive recovery in recent weeks has sent it back near long-term resistance around 7500-7600 area. If we see the FTSE create a bearish-engulfing or a similar bearish pattern around these levels then it could pave the way for further follow-up technical selling in the days to come.

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