Rabobank reports that higher oil and natural gas prices are reducing expectations for near-term Bank of England rate cuts. It now expects the policy rate to stay on hold through 2026, with easing pushed into 2027.
The energy move is estimated to add about 65 bps to UK inflation by mid-year. This would lift inflation to around 2.7% rather than the earlier 2% forecast.
The market-implied probability of a BoE rate cut this month has dropped from about 80% to roughly 25%. The report notes that sterling markets have repriced faster than others.
Rabobank has withdrawn its previous call for two rate cuts in the first half of the year. It links this to the risk of inflation staying above 2% if the energy shock persists, even if unemployment rises.
It adds that the UK has limited monetary and fiscal capacity to offset the impact, leaving the economy exposed until energy markets stabilise. If Middle East tensions ease and energy prices retreat, it may reintroduce rate cuts into a 2026 forecast.
The article says it was produced using an AI tool and reviewed by an editor.
The expectation for Bank of England rate cuts this year has been derailed by the recent energy shock. We should now look at selling SONIA futures, particularly for the second half of 2026, as the market removes previously priced-in cuts. This repricing reflects the view that the policy rate will remain on hold for the rest of the year.
This shift is a direct response to Brent crude oil pushing past $95 a barrel, a sharp rise from the $80 levels we saw at the start of the year. With the latest UK inflation data from the Office for National Statistics showing January’s CPI held firm at 2.4%, this energy spike makes a return to the 2% target highly unlikely in the near term.
Consequently, the British Pound should find continued support against currencies like the Euro, where the central bank is still expected to consider easing. Buying call options on GBP/EUR offers a way to profit from this policy divergence with a defined risk. We saw a similar dynamic back in 2025 when rate differentials drove Sterling higher during the third quarter.
For equity markets, this sustained high-rate environment is a headwind for the domestic-focused FTSE 250 index. Higher borrowing costs and squeezed consumer incomes suggest a bearish outlook, making put options on the index an attractive hedge or speculative play. This is especially true as the latest data showed UK unemployment ticking up to 4.5%, pointing to a weaker consumer.
The entire situation, however, hinges on volatile energy markets driven by geopolitical tensions. This deep uncertainty suggests an increase in market volatility is likely in the coming weeks. A long volatility strategy, such as an options straddle on the Pound, could perform well if energy prices either spike further or retreat rapidly.
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