Use GBP/USD Correction To Form Long Positions

It is reasonable to use the correction of GBP/USD to form long positions

Locking of profit in long positions after an impressive rally of the pound during the week to March 23, rebalancing of investment portfolios and weak retail sales statistics from the Confederation of British Industrialists took the GBP/USD rate away from the 8-week high. The pound bears claim that the market is too self-satisfied, and the decision on a 21-month transition period does not eliminate political risks. This is evidenced by the growth of the 3-month implied volatility in January-March to 8.3% compared with 7.8% in October-December. The bulls, on the contrary, declare that the movements of the pair at the end of the month should not be trusted as they are, to a great extent, due to non-fundamental factors.

Brexit’s progress, a slowdown in inflation to 2.7%, an increase in the average wage growth rate and the emerging optimism about the prospects for the economy of the Foggy Albion and the Bank of England’s confidence in the need to further raise the repo rate allowed the sterling fans to make good money. Some of them preferred to take profits, because there is still a lot of time until the May meeting of the MPC, and the futures market gives 83% the probability of monetary policy tightening. Nevertheless, one must understand that further improvement of macroeconomic statistics will raise the chances of November 2018 and February 2019 and help restore the uptrend in GBP/USD. Analysis of positioning and premiums on options assures that the pair’s growth potential is far from being exhausted.

Dynamics of the risk of GBP/USD reversal and speculative positions on the pound sterling


Source: Reuters.

Non-residents often hedge the currency risks of investing in the US stock market with the help of dollar sales. In this case, the correction of the S&P 500 allows them to close part of the positions (buy greenback), which leads to a decrease in GBP/USD. The Japanese are particularly active, as for them the fiscal year ends on March 31.

In my opinion, from a fundamental point of view, the uptrend in the analyzed pair is stable. The Bank of England has about the same chances of raising the repo rate twice before the end of 2018, as the Federal Reserve has of tightening the monetary policy three times. The transition period has reduced the political risks of Britain, while you can expect anything from Donald Trump. Finally, the belief that the fiscal stimulus will accelerate the US GDP is strong, while no feats are expected from the economy of the Foggy Albion. Disappointment for the former and surprise from the latter will allow the GBP/USD bulls to continue the rally.

The seasonal factor is on the pound’s side. April is a historically strong month for this currency. Since 2005, the sterling has lost only one time (in 2008) to the US dollar. Over the past 20 years, it has on average strengthened against the dollar by 1.4%, demonstrating better dynamics compared to other periods of the year.

Seasonal dynamics of the pound

April: A Strong Month For The Pound

Source: Financial Times.

In my opinion, it is reasonable to use the decline in GBP/USD to support levels at 1.398 and 1.3915 for the formation of long positions.

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