GBP likely to see further sell-offs, but could be some silver linings
GBP’s decline may have stalled last week, but more downside is likely given the uncertainty over the UK’s long-term trade position, tough upcoming negotiations with the EU and the very large current account deficit.
Not only will all these uncertainties hit investment spending in the short to medium term, but they mean that GBP will continue to carry a high risk rating. This is not helped by the huge current account deficit, which has been a concern for this column for some time, standing at 7.2% of GDP and on an annualised basis sees something like a net \£100bn+ leave the country. This is not only a danger for GBP, but is a big drag on economic growth.
Meanwhile, the Bank of England will very likely cut interest rates over the Summer bringing them possibly to zero from 0.5% now. Whether it restarts quantitative easing is another matter – that just might be one bridge too far for GBP. But if the economy proves relatively resilient it might not be considered necessary.
There are a couple of silver linings peaking from behind this cluster of storm clouds.
One, given the sheer scale and speed of GBP’s drop it might spur exports and curb some imports and even incentivise import substitution.
Two, the UK is very fortunate that at this particular moment global deflation prevails meaning UK inflation shouldn’t get too far above 5% and the BoE will likely tolerate it.
Three, good for the government’s finances, but bad for investors, inflation will help erode the UK’s large debts and may even cut costs by for example the state maintaining below inflation pay rises for public-sector workers. If the private-sector mimics this tactic on pay – UK consumption will suffer, potentially meaning less imports and giving firms an impetus to export.
But all this will take time to work its way through the system. In the short-term, factors that could buoy GBP in the short-term, and could be a shorting opportunity, is when the ruling Conservative party appoints a prime minister and gives the UK a fully functioning government, which can establish a new set of policies.
Then there’s the whole question over whether the UK will trigger the formal process to leave the EU. There’s still a slim chance that the UK’s exit won’t happen or that it stays a member in all but name, and if so, that would be a positive for GBP in the short to medium term.
In the meantime, GBPUSD could bottom out around 1.2000-1.2500, providing negotiations with the EU don’t become too fraught and there’s every likelihood that they will become difficult in which case Cable could even test levels of 1.1500, particularly when the City of London is threatened.
TECHNICAL ANALYSIS: GBPUSD – Technicals remain negative
A huge gap exits on GBP/USD at 1.3496-1.4012, extremely unusual for a major currency pair, and is often short-term bullish as markets like to fill those gaps on the charts. But in the case of cable it might not happen anytime soon. Indeed, cable looks set for some more downside action.
At best, cable might manage to trade in a range of around 1.2800-1.3000 (and maybe 1.3500) – though that will be very dependent on news events. In the short-term, the pair look like they’re entering a consolidation pattern with most indicators, such as Bollinger banks and RSI, looking very over-stretched.
This will likely serve as a staging post for more short-selling on GBP/USD over the longer term.
Support can be seen at 1.2794, 1.2750 with 1.2519 acting as a long-term support area. Resistance can be found around 1.3019, 1.3225 and 1.3441.
By Justin Pugsley, Markets Analyst, MahiFX