Marius Paun | London, UK | Senior dealer | Tuesday, 16th July 2019
It is a widely accepted opinion that politics can affect currencies (along with energy and gold) more than any other markets. Hence the race for Number 10 Downing Street stands to be crucial for the future direction of the pound sterling. So far, the UK Prime Minister contender Boris Johnson has rather easily overcome his wide-ranging rival Tory MPs, with only Jeremy Hunt remaining in the contest. Johnson is clearly the favourite with the Conservative membership if the votes so far are anything to go by (he already crossed the magic threshold of 105) and as a result, should be confirmed as the new Prime Minister over this coming weekend.
So, where does Boris Johnson stands with regards to Brexit?
He is adamant that a new deal can be struck with EU, one that is more favourable to the UK, although to do that he is constantly refusing to take a no deal Brexit off table. That puts him at odds with UK Parliament who will not allow such a deal. On the other hand, the EU said they will not renegotiate. It’s clear that something will have to give, one way or the other. The perceived risks are Britain crashing out of the EU with no deal, or a second referendum on Brexit, general elections followed by a Labour win, or yet another delay beyond the current deadline of 31 October this year.
Depending on the different methodology used, and certainly historically, the general consensus is that the pound sterling has a fair value range of somewhere between 1.50 to 1.60 to the US dollar (aqua strip on the chart). But for a return to these levels to occur, the Brexit issue probably needs to be put to rest, one way or the other. It was the ongoing uncertainty that took its toll, resulting in GBPUSD nosediving last week, dropping below the strong support around 1.25 mark. It reached a two-year low of 1.2440, the weakest level since April 2017 (although this level is being tested at time of writing). A string of disappointing UK economic data also acted as catalysts in hurting the pound.
Somehow in another twist of events the Federal Reserves offered a brief respite. Fed Chair Jerome Powell was very dovish in his testimony in front of Congress saying that US-China trade dispute is of particular concern going forward. This despite the surprisingly much better than expected non-farm payrolls figures. As a consequence, the dollar was badly hurt, which allowed GBPUSD to rebound to 1.2578. That was rather short lived, and sterling is now back below the psychologically important 1.25 to the dollar.
On the downside, all the eyes will be on support around 1.2450 – 1.2500 area. If that does not hold it could open the door for another slump to the next support level just above 1.2350 last seen in March 2017, followed by 1.2200. A retest of the record low of 1.1987 seen in January 2017 cannot be ruled out either.
On the upside a close above 1.25 will bring in the support turned resistance at 1.2570 followed by major resistance at 1.2750. It is also quite possible the market hangs about in a consolidation pattern for a while due to a lot of unanswered questions about Brexit. Furthermore, as it is summertime, politicians take a break, traditionally resulting in a quieter period, certainly in terms of political news.
Further consideration should also be made to the 9 day (pink line) and 21 days (blue line) moving averages. It can be seen that when the 9 MA crossed below the 21 MA, it signalled a drop in the GBPUSD, like it did in August 2008, November 2014 and June 2018. Conversely it signalled a rise in October 2013 when the 9 MA crossed above the 21 MA. It looks like the crossover is a good signal in trending markets and not in a consolidation period (2009 to 2014). Currently the 9 MA is below the 21 MA but before we rush into the bearish outlook, it could be possible that we see another sideways range largely between 1.1980 – 1.4250.
One final note; the chart shows the sterling being in a downward trend well before the Brexit vote, and the pullback just before June 2016 was probably driven by expectations of a winning Remain vote. Is this recent move lower a further confirmation of this long-term trend!