For most of the last year, GBP has been in retreat but over the last couple of months a head and shoulders base has been forming. The completion of a potential right shoulder last week and a rebound to start this week suggest a trend change may be underway.
A head and shoulders base has been forming over the last three months with the left shoulder in December, the head in late February and the right shoulder last week with support coming in at a higher low near $1.4050. At the head of the pattern, the low was not confirmed by the RSI, a sign of fading downward momentum. Since then, the RSI has been indicating momentum turning upward. The falling neckline of the pattern tends to generally be viewed as a bullish sign by traders as well.
The strong bounce up off a higher low near $1.4040 toward $1.4150 and then on toward $1.4270 indicates renewed accumulation. Next potential upside tests appears near $1.4315 a 23% Fibonacci retracement of the previous downtrend, then downtrend resistance near $1.4480, the $1.4500 round number and the 38% retracement level near $1.4620.
Cable was driven downward for two main reasons both of which now appear to have been overplayed and overdone for now.
UK monetary policy
relative to the US drove much of the declines in 2015 into the left shoulder and some of the decline in January. The Bank of England had been expected for a long time to start raising interest rates about the same time as the US Federal Reserve Board. As the Fed moved toward its December rate hike and the Bank of England backed off, sending cable lower.
This divergence in policy appears to be narrowing again which could support a GBP recovery. The Bank of England may not be in a position to raise rates but there has been enough positive UK data to give it no reason to cut rates either, leaving it stuck in neutral. Meanwhile, the Fed didn’t raise rates in March and sent enough dovish signals to suggest its next rate hike may not come until June at least, making it less hawkish than before.
Brexit fears also have been overhanging GBP over the last month. The announcement of the EU deal, followed by the setting of a vote date and politicians taking sides crystallized in traders’ minds that the vote is really happening and drove the pair down to the head near $1.3825.
In recent days, uncertainty over budget measures, cabinet resignations and the impact of terrorism in Europe on the vote drove GBP down again but not as far this time. A higher low suggests that uncertainty over a close Brexit vote and the potential for victory by the Leave side has been priced in. With the vote still nearly three months away, anything can happen. While the pair may remain choppy over the next several months and could be volatile in the days around the vote results, for now, the pressure on Sterling appears to be fading, potentially setting the stage for a trading bounce.