GBP/USD Week Ahead Forecast: Emerging Potential

• GBPUSD technical outlook is improved
• But key test comes on Tuesday with PMI release
• USD highlights include GDP print Thursday
• And PCE index release on Friday

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The Pound to Dollar exchange rate could record a more determined advance over the coming days as the technical setup improves over short-term timeframes and a heavily pessimistic consensus on the UK economy looks to be challenged.

Pound Sterling put in a flat performance against the Dollar last week, which in itself is relatively constructive given the state of play since July, which has resulted in a loss of 7.50% from the peak.

The Pound was able to mount a defence against the Dollar which should have outperformed given the number of factors that it had lined up in its corner.

The Dollar was unable to rally despite heightened nerves over the potential spread of unrest in the Middle East and a surge to fresh multi-year highs in U.S. ten-year bond yields as investors acknowledged U.S. interest rates are set to stay at elevated levels for a protracted period.

Pound-Dollar went as low as 1.2090 before staging a modest recovery to 1.2140.

Above: GBPUSD at weekly intervals. The medium-term setup continues to favour the downside, but the nearer term could see some modest upside potential. Set up a daily rate alert email to track your exchange rate OR set an alert for when your ideal exchange rate is triggered ➡ find out more.

From a technical perspective, the exchange rate is hardly a screaming buy, but one analyst we follow says the outlook is leaning in a constructive direction.

"Sterling looks soft but spot has once again found firm support on dips below 1.21. GBP gains off the low Thursday set a daily 'doji' candle on the candle chart, suggesting a potential turn higher in the pound," says Shaun Osborne, Chief FX Strategist at Scotiabank.

"A deeper rebound through 1.2190/00 resistance is needed to secure gains towards 1.23 from a technical point of view, however," he adds.

The British Pound found itself under pressure last week following the release of a tranche of domestic figures that pointed to a slowing economy, but the currency could find redemption should this week's PMI figures beat expectations.

"We still have... flash PMIs and labour market data to be published. As has been seen in past meetings, singular data points can have the power to influence a rate decision (even if they are then revised). The risks are certainly tilted towards a further hike from the Bank of England," says Ellie Henderson, an economist at Investec.

Should expectations for a further hike build, it could prove supportive of Pound Sterling.

Employment figures were due last week but were delayed by the ONS for technical reasons and are now set for release on Tuesday at 07:00 BST, and investors will be looking for signs of 'slack' in the labour market to back a growing expectation that the Bank of England has completed the rate hiking cycle.

Above: UK wage pressures are cooling, lowering the odds of another rate hike. Image courtesy of Pantheon Macroeconomics.

The headline unemployment rate is expected to be unchanged at 4.3% in August. Meanwhile, the rolling three-month employment figure is expected to show a contraction of 195K workers.

Should the numbers beat expectations, the Pound could find itself supported, but we would expect gains to be limited simply by observing the Pound's inability to rally on upbeat data (the inflation beat last week is a case in point).

The market appears to have made its mind up about the deterioration in the economy and needs little invitation to sell Sterling, therefore, a disappointment in the numbers could see the currency back under pressure.

The UK PMI survey comes at 09:30 and gives a timely snapshot of economic performance. The PMIs have been increasingly important to the currency market, which is now heavily invested in relative economic growth rates.

This means currencies with higher growth potential are favoured over those with a weaker outlook, as interest rates are likely to remain elevated for longer in the outperformers.

A services PMI of 49.5 is expected, with the manufacturing PMI anticipated at 44.6. The rule of thumb is that the Pound will move according to whichever side of expectation the data lands: higher on a beat, lower on a miss.

"If the forward-looking balances in recent activity surveys are anything to go by, October's flash S&P Global/CIPS PMI surveys are likely to signal a further contraction in private sector output," says Andrew Goodwin, Chief UK Economist at Oxford Economics.

Image © Adobe Images

The Dollar's calendar in the coming week is dominated by a GDP print and the release of inflation numbers in the form of the PCE index, but global investor sentiment and the evolution of U.S. longer-term bond yields will also continue to be of importance.

The release of quarterly GDP comes at 13:30 BST on Thursday and therefore clashes with the ECB's event, which could make trade around this time interesting, albeit somewhat confusing.

The market is watching for 4.1% quarter-on-quarter growth to be reported for the third quarter as activity picks up from the second quarter's 2.1%, confirming activity has picked up over recent months.

"If GDP and most other US macro pointers in the week come in higher, then at the very least it would boost the “higher for longer” narrative, while data disappointment could finally send US dollar and yields lower," says Fawad Razaqzada, an analyst at City Index.

A strong beat could offer some support to the Dollar, although it must be said a great deal of good news is already priced into this currency (which contrasts to the large amount of bad news priced into the Euro, which further tilts the risks in favour of a Euro-Dollar rebound).

Other U.S. events to watch are the release of durable goods orders, to be released alongside the GDP print, where an increase of 0.6% is anticipated.

There is some inflation data on tap Friday, with the release of the PCE price index at 13:30 BST. This is a notable release in that it is actually considered to be the Federal Reserve's favourite measure of inflation.

The market reaction could therefore be worth watching if the actual numbers deviate from the expectation. In this regard, the consensus sees the headline PCE index rising 0.3% month-on-month in September, with the core PCE rising by a similar margin.

Should the numbers undershoot, the Dollar could weaken, but it would likely take a sizeable overshoot to prompt a Dollar rally, given the asymmetric expectations pertaining to U.S. data (i.e. a lot of good news is baked into the USD).