Sterling remains resilient despite political uncertainty
01:00, 21 april 2015
· Av CMC Markets
We’ve heard a lot of chatter about the weakness of sterling in recent days and weeks, which I guess is inevitable when you’ve seen it decline from highs above $1.70 against the US dollar to lows of $1.4550 earlier this month.
Putting that to one side for a moment the pound isn’t as weak as some would have you believe, given it is up over 15% from its trade weighted 2012 lows, and is currently trading near multi year highs against the euro, as well as the Australian dollar and the Japanese yen.
The fact is over the last 12 months; only the US dollar and Swiss franc have outperformed the pound to any degree, while the pound has performed best against the euro and the Scandinavian currencies with gains of over 10%.
The big question revolves around what the pound might do next as the May election moves slowly into view, and the surprise is not how weak the pound has been, but how resilient it has been despite concerns about the political deadlock that looks likely to ensue if the polls stay as they are.
The received wisdom is that we could well see further sterling weakness in the coming days as investors start to fret more about the flavour of the next UK government with speculation rising that we could well see further sterling losses against the US dollar towards $1.3500, levels last seen in early 2009.
That may still happen, and it would take a brave man to bet against further sterling weakness in the days ahead, given the background noise we’re getting from the media every day, about the instability that will ensue in the coming weeks.
At times like these it is very easy to feed into the overall narrative of uncertainty which we are exposed to on a daily basis, but if we put that to one side, park our emotions, and look at the price charts they paint a slightly different story at the moment in terms of the price action.
They seem to suggest that we remain more at risk of a move back above $1.50 towards $1.5500, which suggests a move towards $1.3500 remains unlikely ahead of next month’s vote, with only a move below the April low at $1.4560 changing that outlook.
One of the main reasons the pound has been so weak in recent months, against the US dollar hasn’t been down to rising political uncertainty, if that were the case you’d see it reflected more broadly across the board, but due to widening divergences between US and UK monetary policy.
Perceptions that the US Federal Reserve could raise interest rates this year have pushed the US dollar higher across the board, not just against the pound.
With everyone so bearish on the pound against the dollar there is a risk that a lot of the negativity is already priced in, and the probability of a hung parliament could mean that neither party is able to implement its more contentious areas of policy, mitigating any initial areas of sterling risk.
Looking at the weekly chart for the pound against the greenback, we’ve been consolidating between $1.4500 and $1.5000 over the past six weeks, however there does appear to be some evidence of a potential floor coming in, particularly given last week’s bullish weekly reversal.
Last week’s strong rebound does suggest that traders are nervous of being overly short the pound and looking back over the last five years we have seen previous examples of a bullish reversal, with a new weekly low, and higher high reversing a down move and forewarning of a potential rebound.
Furthermore with client sentiment towards sterling being overwhelmingly negative to the tune of 93%, the potential for a short squeeze does remain quite high, suggesting we remain more at risk of a move higher than lower, which would seem to suggest that at this point a move below $1.4000 remains unlikely, though that could change after the election.
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