GBP/USD edges higher to near 1.2700, upside potential seems limited

• GBP/USD appreciates as the US Fed is widely expected to deliver a deeper rate cut in September.
• The upside of the GBP could be limited due to increased risk aversion amid rising Middle-East tensions.
• Two US intelligence officials said that Iran and its allies are preparing potential retaliation against Israel.

GBP/USD breaks its three-day losing streak, trading around 1.2700 during the Asian session on Thursday. This upside could be attributed to the weaker US Dollar (USD) as the US Federal Reserve (Fed) is widely anticipated to implement a more aggressive rate cut beginning in September.

According to the CME FedWatch tool, there is now a 72.0% probability of a 50-basis point (bps) interest rate cut by the US Federal Reserve (Fed) in September, up from 11.8% a week earlier. The expectation of deeper rate cuts may pressure the US Dollar in the near term.

Weaker employment data from July have heightened concerns about a potential US recession. US Nonfarm Payrolls (NFP) came in weaker than the expectation, data showed on Friday. Meanwhile, the US Unemployment Rate rose to the highest level since November 2021 in July.

According to Reuters, Federal Reserve Bank of San Francisco President Mary Daly expressed increased confidence earlier this week that US inflation is moving toward the Fed's 2% target. Daly noted that “risks to the Fed's mandates are becoming more balanced and that there is openness to the possibility of cutting rates in upcoming meetings.”

On the GBP front, the increased risk aversion linked to escalating Middle-East tensions could lead traders to shy away from risk-sensitive currencies like the Pound Sterling (GBP). According to two US intelligence officials, Iran and its allies are preparing potential retaliation against Israel. This response is expected following the recent killings of a top military commander of Iran’s Hezbollah in Lebanon and a senior Hamas leader in Tehran, as reported by CNN.

Meanwhile, the upside of the British Pound could be restrained from the heightened expectations of BoE delivering a 25-basis point rate cut at its August meeting. Additionally, market expectations now include the possibility of two more quarter-point rate cuts by the BoE by December.