A Stubborn Pound Defends the Line Against US Dollar

The Pound to Dollar exchange rate trades in the vicinity of 1.2463 at the time of writing on Thursday, February16 having gone as low as 1.2383 during the previous day. 

Pound Sterling looked to be at risk of suffering a notable breakdown at one stage but we said the pair must close below 1.2415 for us to formulate a more bearish view.

It recovered in impressive fashion to close at 1.2467 and this suggests the Pound continues to enjoy substantial support in this area.

The move also casts serious doubts over the Dollar's ability to rally at this stage, something we look at in more detail further on in this news report.

Concerning the outlook, there is no major UK data due until Friday and markets will likely continue taking cues from technicals.

GBP/USD is still pressing against 1.2415 where both the 50-day moving average and the monthly pivot are situated together producing an especially tough support band.

Whilst it might seem the obvious route for the exchange rate is higher, given it is the path of least resistance, we are marginally bearish because of the look and feel of the chart:

We see a slight bias to the downside, which would be confirmed by a break below the recent hammer lows at 1.2344, with a target at 1.2200.

The falling trajectory of the MACD (bottom pane) appears to corroborate this view as it too looks likely to continue.

However, it would seem that for the near-term such moves will be on hold.

"We are neutral on GBP/USD this week. After a decent performance in Jan, GBP has consolidated in a 1.24-1.26 range," says Imre Speizer, a foreign exchange stategist with Westpac Institutional Bank in Aukland, New Zealand.

Imre believes A ranging pattern is likely during the weeks ahead but eventually, "when Brexit details surface and/or the US Dollar resumes its uptrend, the downside beckons."

Inflation Data Beats Expectations, Sparks Short-Lived Dollar Rally

The US Dollar benefited following the release of better-than-forecast CPI inflation and retail sales data out of the United States in the mid-week session.

Dollar exchange rates broke lower after inflation in the world's largest economy hit a multi-year high in January with a reading of 0.6% being announced by the Bureau of Labor Statistics.

The January increase in US inflation was the largest seasonally adjusted all items increase since February 2013.

A sharp rise in the gasoline index accounted for nearly half the increase, and advances in the indexes for shelter, apparel, and new vehicles also were major contributors.

The energy index increased 4.0% in January as the gasoline index advanced 7.8% and the index for natural gas also increased. The food index, which had been unchanged for 6 consecutive months, increased 0.1%. The food at home index was unchanged, while the index for food away from home rose 0.4%.

"Inflation sailed past the Fed’s two per cent target and with economic growth expected to tighten, Yellen may well intervene on multiple occasions in the coming months," says Dennis de Jong at UFX.com.

At the same time, retail sales read at 0.8%, better than the 0.4% expected which suggests the US consumer might be playing a part in driving inflation.

The Dollar jumped on the good news only to retreat soon after.

“In the end, all of the major currencies were confined to ranges within a half a percent. Perhaps the most interesting thing was the selling of the US Dollar in the aftermath of what should have been USD supportive data,” reflect LMAX Exchange in a note to clients.

This suggests traders who have trades looking to benefit on a stronger Dollar are losing conviction and using any strength to close out of these trades.

"A higher US Dollar is a consensus trade and investors are already positioned for it. The net-long speculative positions are not excessive but still high. It could be that investors use any rally in the US dollar to close their US dollar longs because they are losing conviction,” says Georgette Boele at ABN Amro in Amsterdam.

ABN Amro still see the Dollar rising further as a base-case scenario, but they do warn that they are losing conviction on this view following the currency's under-performance in the face of what is clearly positive data.

Looking ahead, on Thursday, there is yet more significant data, with Building Permits, Housing Starts and the Philadelphia Fed Manufacturing Index.

News and Data Ahead for Sterling

The Pound is meanwhile proving to be quite reactive to data once more. 

The currency fell in the mid-week session following worse-than-expected average earnings data which came out at 2.6% instead of the 2.8% expected (and 2.8% previously), in January.

Earnings are indicative of inflation and therefore future monetary policy from the Bank of England (BOE).

A rise in earnings leads to higher inflation, leads to the BOE raising interest rates and this pushes up the Pound because more foreign investors are likely to transfer their capital to the UK to receive the higher interest return being offered there.

Currently the usual relationship between inflation and earnings, however, appears to have broken down, because inflation is being pushed higher, not by more spending, but by the weak Pound, which has pushed up the cost of imports.

The slowing wage recovery is weakening the Pound because it could slow economic growth down as people will have less spare cash to spend due to wages not rising as fast as inflation.

“The trouble is inflation is rising at an anti-Goldilocks rate - neither bad enough nor mild enough. It's not fast enough for the Bank of England to hike interest rates, nor slow enough to stop economists fretting about its growth-sapping erosion of consumers’ buying power," says David Lamb, commenting on the data, who is head of Dealing at FEXCO.

“With average wages now rising only a shade faster than prices, the wheels could fall off the consumer boom that has so far powered the UK economy through much of the post-referendum turbulence.

This feeds into the next major release for the Pound, on Friday, February 17, when Retail Sales for January is published at 09.30 GMT.

Analysts are expecting a slowdown due to wages not rising as quickly as previously and therefore people consuming less.

Of course, the rising cost of imports may also be putting shoppers off due to rising price-tags.

Nevertheless, consensus estimates are for Retail Sales year-on-year (yoy) to show a rise of 3.5%, and 1.0% month-on-month (mom).

Core Retail Sales are forecast to rise by 3.8% yoy and 0.7% mom.