GBP/USD Extends Sideways Move, 1.3800 Target Still Feasible

The GBP/USD rate has moderated after previously showing bullish potential; it now remains range-bound after positive Inflation data from the UK was matched by strong US Building Permits on Tuesday.

The pound to US dollar has declined marginally since flirting with the neckline of an inverse head and shoulders (H&S) pattern, which - if it had pierced - would have led to a probable bullish push up to 1.3800.

We are now faced with the possibility that the inverse H&S may prove to be a failure and the market could capitulate and move lower.

Strong US Building Permits data, which say an expectations beating 1.5% rise in June has helped the dollar to gain ground and undo the gains the pound got after Tuesday's inflation bump.

Currently the pair remains evenly balanced with a move above 1.35 setting in motion the bullish scenario and a move below 1.3000 unlocking more downside, and a continuation of the Brexit sell-off.

It is possible that Friday's UK July PMI's will be the deciding factor in whether sterling appreciates breaking higher, or depreciates in line with the Brexit sell-off.

Friday's PMI's cover the three main commercial sectors of the economy: Manufacturing, Services and Construction, and will be the first really important piece of data for the period after Brexit.

If the economy is shown to be holding up relatively well, then the pound could spike higher, if not then it could start a fresh leg lower.

US Building Permits Surprise in June

A higher than expected rise in US Building Permits in June may have provided the US dollar with some gentle support on Tuesday although despite an expectation beating gain, which continued to show the US housing market in rude health, the dollar did not capitalise as much as may have been expected from a top tier release.

Building Permits rose to 1.153m, easily beating expectations of 1136k and a previous result of 1150k.

EconomicCalendar.com's Sam Bourgi commenting on the figures and the general outlook for the property market said:

"On Monday, the National Association of Home Builders/Wells Fargo Housing Market Index (HMI) suggested housing activity had steadied in July amid slightly lower sales expectations and buyer traffic. NAHB said that the fundamentals were still in place for a continued recovery in the nation’s housing sector. Solid job creation and affordable mortgage rates will likely offset any potential headwinds the market faces over the near term."

Whilst the posiitve release will not reduce the possibility of the Federal Reserve moving to raise interest rates sooner rather than later, it is not likely to dramatically increase the chances of an early rate hike either.

Higher interest rates tend to support currencies as they attract more foreign capital seeking higher returns.

UK Inflation picks up in June

Sterling strengthened across the board on Tuesday after CPI data for June showed prices rose by 0.5% yoy, beating the 0.4% forecast, and well above the 0.3% rof the previous month of May.

GBP/USD rose from 1.3184 before the release to 1.3218 after.

GBP/EUR, meanwhile increased to 1.1936  from 1.1931 previously.

On a month-on-month basis the data showed prices rising by 0.2%, which was in line with forecasts and the same as May.

Core CPI - which does not include volatile components such as Energy and Food - rose by 1.4% -  also higher than the 1.3% expected and 1.2% prev.

Coming after Martin Weale’s steadying comments on Monday, in which he advocated waiting to assess the impact of Brexit before triggering more stimulus, the figures seem to suggest the BOE may not be in as much of a hurry to reduce interest rates and/or expand quantitative easing as had previously been thought.

Technical Outlook

GBP/USD

Cable is forming a probable inverse head and shoulders pattern after troughing at the July 5 lows. The pattern is most visible on the 5-hr chart below.

These patterns mark reversals in the trend from down to up, and a break above the neckline, confirmed by a move above 1.3500, would probably lead to a continuation higher to the next target at 1.3800.

Alternatively, it is also possible the strong down-trend could resume and push the exchange rate lower.

However, for confirmation of this I would ideally wish to see a break below the 1.3000 level, which would probably lead to a move down to the 1.2800 lows and perhaps lower beyond that.

Commerzbank’s technical analyst Karen Jones is more bearish, seeing a possible move down into the 1.20s as more likely than a break higher:

“GBP/USD’s correction higher last week fell short of the 1.3534 recent high and is now struggling to overcome the 20-day MA at 1.3365 and looks set to weaken very near term. The Intraday Elliot Wave Count has turned more  negative and we have reinstated short positions, we look for a slide to 1.2885/1.2750.”

EUR/GBP

There is no real change from yesterday’s analysis of EUR/GBP.

The pair appears to have formed a head and shoulders pattern at the highs which looks poised to break lower.

If the exchange rate pierces the neckline at 0.8200 then it will probably move down to the next target at 0.8110, at the 50% retracement – a common level for prices to pause or stall at.

According to Commerzbank’s Karen Jones this is the same level she expects the exchange rate to base and rotate higher, before continuing its broader up-trend.

“EUR/GBP charted an inside day on Friday and remains near term downside corrective and the Elliot wave count on the daily is pointing to a 0.8229/0.8110 retracement prior to recovery.”

Once the correction completes, however, the pair is expected to continue bullishly rising:

“Beyond a small correction the market remains on course for the 0.8815 February 2013 peak. Please note that we have various Elliot wave counts that suggest that the move will extend towards the 0.9250 area.”

There is also a possibility that the head and shoulders pattern will not trigger, in which case a move above the 0.8470 highs would lead to a move up to a target at 1.8600.

GBP/EUR

The pound to euro pair is also forming an inverse head and shoulder pattern at the lows.

This would indicate that a break higher may be on the horizon for the pair.

A break above the 1.2150 level would probably open the way for a move up to a target at 1.2350.

Alternatively, if the inverse H&S fails, then more downside is likely, and a break below the 1.1800 low would usher in a bearish phase with a target at the 1.1600 lows.