Chart Of The Day: Pound Sterling Falls...Dip Or Trend Reversal?

by Pinchas Cohen

Traders are always on the hunt for the next good, profitable opportunity. In general, those are created via two basic events:

1. Price extremes, or
2. A shift in the value of the price even if it's not yet extreme

One such opportunity presented itself earlier today, after the pound sterling fell this morning, on Saturday night’s UK terror attack—the second in less than two weeks, combined with PM Theresa May’s popularity losing momentum in the polls despite the terror attack, which should have helped her since she's the leader who wants to close UK borders.

The key question any trader needs to answer is whether the current decline is merely a dip or a more serious trend reversal. From a fundamental standpoint, the first thing the trader needs to know is what caused the shift, in order to help assess the direction of the projected move.

The market narrative says today's move was a result of the terror attack. If a trader believed that to be the case, they would have needed to then answer whether this will have a long-term impact on the currency. Short-term traders who guessed the currency would bounce back after the knee-jerk decline won the bet.

Long-term traders would argue that the terror attack should actually help the pound, much as it would help PM Theresa May, who advocates closing the UK's borders. Since May’s installation as PM the pound has consistently increased or decreased along with her political fortunes.

On July 11, when it was announced that she would become Prime Minister, the pound reversed a loss of 0.8 percent and closed with a 0.2 percent gain. The announcement strengthened the pound by a full percent. On the following day, the pound gained nearly 2 percent.

However, currently, despite the attack and irrespective of May ramping up the anti-terror rhetoric, momentum seems to be against her. Her lead against opponent, Labor party head Jeremy Corbyn, keeps diminishing. Early this morning polls showed May ahead by just a single percent.

So, as opposed to the market narrative, assigning the pound sell-off to the terror attack is the wrong assumption. In fact, the UK currency was declining beforehand.

This, combined with the fact that the terror attack didn’t help May in the polls, suggests that perhaps her loss of momentum is actually the fundamental reason for the pound’s increasing weakness.

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While the pound is generally measured against the dollar, the most accurate gauge is the UK Pound Sterling Index, as it measures the value of the pound against a basket of global leading currencies. In this way, the gauge of the pound won’t be subject to just a change in value of the US dollar (which is currently facing its own set of challenges).

Between July 5 2016 and April 18 2017—the day May called the snap election—the index traded in a massive H&S bottom, with respective target price implications. However, on May 26, the classic return move, which tests the now-resistance of the former support of the neckline failed on election jitters, falling back into the pattern on a gap, with a close of 77.30, the lowest price of the day. Today is the seventh session in the same price congestion.

While the GBPUSD and GBPJPY are still in an uptrend, the EURGBP has been ranging this year, roughly between 0.88 and 0.84. The pound’s 5.25% rise since mid-April, on May’s leadership in calling the snap election, has been stalling as her momentum slips, heading toward the top of the range – where supply (sellers) awaits demand (buyers).

Notice that the MACD has leveled out toward the overbought level, the RSI has been stuck after providing an overbought read and the stochastics on the RSI look like a snake that’s about to pounce, overbought and looking toward its prey, a decline.

However, should May actually lose parliamentary seats, rendering the snap elections a pointless and costly event, it could cost her political capital. If May’s snap election announcement on April 18 made the never-elected leader look strong, this botched election gamble may very well make her look weaker than before. If her April 18 announcement gave the pound a 2.20 percent boost, what would a negative election announcement do?

That may very well help the EURGBP escape its trendless range, where the last line of defense occurred at the January 16 high of 0.8854. When taking into account the fundamentals of the messy, ongoing Brexit negotiations, as opposed to the recent economic improvement in the euro area, it looks like a shift in the value of the currencies is occurring, as opposed to an extreme of the top the range.

Still, the strongest signal of pound weakness may be coming from the GBPCHF, which has fallen below its nearly eight-month-long uptrend line, compounded by a cross below the major moving averages on May 26, and before this weekend’s terror attack.

Meaning the move occurred on election jitters. Seeing a theme here?

Is the safe-haven Swissy trying to tell us something about the future of sterling? Even if May lands on her feet after the election, she still has to climb a mountain of Brexit negotiations. The breaking of the trendline may suggest a return toward the 1.1500 level, its lowest point since August 2011.

h3 Trading the GBPCHF Trend
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Now may be a good time to short the GBPCHF. It’s returning toward its downtrend line within the hourly chart, and the RSI has also gotten up to its own downtrend line, where it came to a stop. Conservative traders may wait if, and until, the price returns toward the actual hourly downtrend line, around 1.2480 per the current angle.

Written By: Investing.com