Yesterday’s rebound in the pound has been a long time coming and there is no reason we can’t head higher in the coming weeks.
The market still remains in a negative mind-set for sterling with short positions still elevated. While there is likely to be a few twists and turns over the course of the next few weeks, the US dollar side of the story suggests that we could see further US dollar weakness, pushing the pound back through the 1.3000 level in the longer term.
UK economic data has shown some signs of weakness in the past couple of months particularly on the consumer side; however employment rates remain high and average earnings growth appears to be stable at about 2.3%.
The big unknown remains headline inflation, how high it goes and more importantly how much gets passed down to the UK consumer. This may well feed into a slightly more subdued rate of consumer spending which may weigh on the UK economy but will it slow it to an extent that will cause the pound to head back down?
It is possible but it ignores the other side of the trade in the form of the US dollar.
US yields have slipped back along with UK yields and the Trump reflation trade may be in trouble, which could mean the gap between US and UK yields narrows in the pounds favour. This is likely to be sterling supportive and could help push the pound higher as well.
There is also the fact that Brexit negotiations aren’t likely to get underway in earnest until after the German elections in September, which means that the any early skirmishes aren’t likely to tell us too much about how the next two years will pan out.
Yesterday’s sharp breakout of the four month triangular consolidation from the December peaks also looks impulsive in nature, which suggests that over the course of the next few weeks and months a move towards 1.3000 could well happen, with an eventual target of 1.3300.
Traders should bare this in mind before piling back onto sterling short positions, and while we could see a slide back towards 1.2600 it would be a surprise if dropped below 1.2500.
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