The Pound-to-Dollar Rate Downtrend is Over says Commerzbank as Soc Gen Flags Scope for Fierce Bounce

© Pavel Ignatov, Adobe Stock

- GBPUSD has bottomed and downtrend is over says Commerzbank. 

- Can "bounce fiercely if only there's some good news" says Soc Gen.

- After UK-U.S. bond yield spread moves in favour of Pound Sterling.

The Pound-to-Dollar rate has bottomed out after exhausting its downtrend last week and could soon begin to recover ground lost since the early stages of last year, according to technical analysis from Commerzbank.

Pound Sterling's collapse during the so-called flash crash seen in the opening days of the New Year marked a nadir for the British currency, Commerzbank says, and the path of least resistance for the exchange rate should now be to the upside. 

"We regard the slide to 1.2444 charted last week as the end of the down move. The market will need to overcome the 2018-2019 resistance line at 1.2821 to confirm (favoured). This would target initially the 200 day moving average at 1.3146," sys Karen Jones, head of technical analysis at Commerzbank. 

Above: Commerzbank technical analysis of Pound-to-Dollar rate.

The Pound fell sharply to 1.2444 during the opening days of the New Year before recovering swiftly. This turnaround coincided with a long-term upward-sloping trendline that now marks out the bottom for the Pound-to-Dollar downtrend.

However, for this bottom to be confirmed on the charts the market will need to recover above the 1.2821 level, which would open the door to a recovery back toward 1.3146 and 1.3258. The Pound-to-Dollar rate was -0.24% lower at 1.2754 Tuesday. 

Above: Pound-to-Dollar rate shown at daily intervals.

Commerzbank's call comes just as fundamental analysts at Societe Generale flag that recent shifts in U.S. and UK government bond markets mean the Pound-to-Dollar rate has increasing upside potential. Any piece of good news emerging from the UK could be enough to prompt a rally higher. 

"FX and 10year nominal yields saw their relationship strengthen again after the first few months of last year," says Kit Juckes, chief FX strategist at Societe Generale. "GBP/USD will snap higher if (and it's a huge if), there's any positive news in the days and weeks ahead. ‘Bad Brexit' is bad for sterling and for the euro, and hence bad for GBP/USD above all. ‘Less bad Brexit' is good for sterling and the euro and therefore good for GBP/USD."

The spread, or gap, between yields on U.S. 10-year government bonds and the UK 10-years has been moving in favour of the British currency ever since early November. The spread has risen from almost -1.9% in November to only -1.54% on Tuesday, which should have had a positive impact on the Pound-to-Dollar rate, although it appears uncertainty over the path toward Brexit has prevented the currency from capitalising on the yield shift. 

Yields represent the return achieved by investors when they buy government bonds and, in the process, invest in a national currency. As a result, relative differences in the available yield have an important over investor decisions about which bonds and currencies to buy.

Juckes says the recent shift in the UK-U.S. spread means the Pound-to-Dollar rate can "bounce fiercely if only there's some good news" to prompt investors into action over the coming weeks. 

Above: Societe Generale graph showing Pound-to-Dollar rate (Grey) alongside yield spread (Red). 

Much of what happens to the Pound-to-Dollar rate over the coming weeks will be determined by events in parliament, where another series of the Brexit saga began on Monday.

Prime Minister Theresa May still lacks the necessary support to get her Withdrawal Agreement passed through parliament. And if that approval is not secured before the end of March 2019, the UK will default to trading with the EU on World Trade Organization (WTO) terms.

Most analysts say this will be bad for the economy and currency. Markets certainly see it as being bad for the currency, given falls in Sterling each time the Prime Minister tries and fails to secure support for her agreement from various factions of lawmakers in parliament.

Monday 15 January will see the first parliamentary vote on PM May's withdrawal agreement. There are few if any other than the government's Brexit minister who are on record as saying the deal will pass, with most appearing to view rejection as the only likely outcome.

But the initial vote in the House of Commons is still important because it will reveal the scale of parliamentary opposition to it, and in the process, the true extent of the challenge that PM May must overcome.

If PM May's defeat is a landslide that leaves a parliamentary majority still looking insurmountable then it would surely be bad for the Pound. But if the scale of loss is less than markets currently perceive as likely then Sterling could receive a boost as investors bet a deal will eventually be approved by lawmakers. 

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