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The Pound-to-Dollar Rate Offers a "Strong Positive Set-up" as Market Poises for Another Leg Higher

© kasto, Adobe Stock

- GBP/USD pulls back from extremes but outlook is bullish.

- Current correction lower should end with 1.31 level intact.

- Upside targets are at 1.3396, 1.3431, 1.3550 and 1.3600.

The Pound-to-Dollar rate pulled back from recent highs Friday but analysts are still bullish in their forecasts for the pair, and some say current levels provide an attractive opportunity for speculators to buy into Sterling's recovery while it's still at a reasonable price. 

“This is a strong positive setup,” says Peter Stoneham, an analyst on the Reuters currency desk, before flagging 1.3363 July 2018 high as the next intiial target for the exchange rate. 

The pair is trading in a tight range, albeit beneath the six-month highs seen earlier this week, but all major short-term moving-averages are still rising. Momentum studies, however, are turning more neutral. This is likely a signal that a period of consolidation is ahead, before the next leg higher.

A pause in the the Pound-to-Dollar rate uptrend over the coming days would be unsurprising given signs of a pull-back have been appearing on the charts all week. Prudent traders would have noted them and taken profit before the minor retreat that got underway Friday.

Richard Perry, market analyst at FX broker Hantec Markets, sums up the situation neatly in his morning market preview.

“The push higher on Cable has run out of steam, at least for now, as the market has turned back below $1.3300 to form a negative candle yesterday. After such a strong run higher, this is not to be unexpected and a drift back towards the breakout at $1.3215 is to be expected,” Perry says.

Above: Pound-to-Dollar rate showing complet flag pattern.

There were other technical signs that the trend might be about to stall too. Pound Sterling Live noted the complete bull-flag in a report on Thursday as a warning of a possible slide. The pair now appears to have finished its bullish flag pattern after the extension reached an equal length to the ‘pole’.

Above: Pound-to-Dollar rate at daily intervals, with Bollinger bands shown in thin green.

The exchange rate had surpassed the top of an indicator called the bollinger band, which stands 2-standard deviations from the 20-day moving-average of prices, and usually denotes the upper limit that a price can move to within a given period.

Above: Pound-to-Dollar rate shown at daily intervals, with relative-strength-index (RSI) in lower pane.

At Wednesday’s 1.3350 high, the Pound-to-Dollar rate was 'overbought', according to the RSI momentum indicator, which was also a warning of a looming price pull-back.

A move from overbought levels above 70, back down to the area below that threshold, is a sell signal according to the indicator's pioneer Wells Wilder. 

Above: Pound-to-Dollar chart showing Ichimoku cloud. Source: Thomsom Reuters.

Finally, looking at Japanese cloud charts, Reuters' Stoneham says there are signs that suggest the exchange rate is overstretched given that it hsa pulled a long way back from its Ichimoku cloud. This begs a couple of questions; what signs are there to suggest this uptrend can actually endure, and how much higher could it eventually go? 

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We are in the ‘Buyzone’

One tell-tale sign that the market could be about to turn higher again is to look for a setup in what some traders call the ‘buyzone’, which is the space between the 10 and 20 period moving averages (MA). 

The formation of a strong bullish candle in the buyzone is a sure sign the pair is getting ready to start climbing again. But the problem with this pattern on the GBP/USD chart is that the uptrend has been so rapid in its formation that the exchange rate has run away from these two averages.

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

For the pair to re-enter the buyzone it would have to fall to at least the 1.3127 level, which is substantially beneath the current market price. If it did fall that far, however, and then reversed to form a bullish candlestick then it would probably provide a strong enough buy signal to draw a fresh bid from the market. 

Hantec’s Perry is one analyst who says a deep pull-back to this sort of level is possible in the coming days. There are also key levels below the current market price that are of psychological significance and could provide the rate a ‘bed of support’ that acts as a floor preventing further declines.

“Breakout support is at $1.3110 and so there could be a position where an unwinding move into $1.3110/$1.3215 is seen,” Perry writes, in a note to clients. The 1.3218 January high is another level the Pound will likely find support at. 

Above: Pound-to-Dollar rate showing January highs.

Another level of support for the Pound-to-Dollar rate is located at the 50-week moving-average around 1.3155. If the market can hold above this price point there will be strong bullish signal in plain sight for all to see on the charts come the Friday close. That could encourage a fresh turn higher as soon as Monday. 

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

The weekly chart above also answers the question of how high the pair could go if the uptrend resumes. The 200-week moving-average at 1.3600 is an obvious target since at that level the market will likely stall again.

Above: Pound-to-Dollar chart showing A-B-C-D set-up.

With the Pound-to-Dollar rate appearing to form an A-B-C-D pattern, or Gartley pattern, from the January lows the 1.35 level offers speculators a more conservative upside target. 

These patterns look like three-wave zig-zags in two trending parts that are separated by a short correction. Waves A-B and C-D tend to be of similar lengths so the first one can be used to forecast the last.

Applying this rule to the pattern on the Pound-to-Dollar chart generates an upside target of 1.3550. 

Above: Pound-to-Dollar rate at daily intervals, with 50% fibonacci retracement levels shown. 

Another key target level to the upside is the midpoint of the previous long-term down move that is located at 1.3431, otherwise known as the 50% Fibonacci retracement level. This 'sticky' level for prices.

Finally, the R1 monthly pivot is yet another potential upside target for the pair at 1.3396. As the name suggests it is the location of a potential future reversal. Technical traders tend to fade the trend when R1 levels are touched so there is a risk of another retreat from R1.

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