Pound-to-Dollar Rate Tipped to Break Multi-Month Highs; US Dollar Weakness Extends into Mid-Week Session

pound sterling exchange rates 1

The Pound-to-Dollar exchange rate is rising, and chart patterns suggest more of the same ahead.

Pound Sterling reached a new three-and-a-half month high at 1.3613 on Wednesday, January 3 as broad-based US Dollar weakness continued to dominate currency market trade.

The Dollar was seen under pressure amidst falling U.S. treasury yields while some commentators also point out that the relative economic growth dominance of the United States is being increasingly challenged by improving growth levels across the globe.

International manufacturing activity data showed strong growth global growth levels, especially in emerging markets, and this is expected to become a major draw for investors which will typically result in flows out of USD.

"The manufacturing PMIs continued to show a recovery in global economies and with yields pulling higher the expectation is that the Fed may soon find company in the department of tightening monetary policy," says Richard Perry at Hantec Markets.

Rising global yields eat away at the United States' relative yield advantage which in turn truggers that already-mentioned flow out of Dollars.

Although the Federal Reserve is expected to raise interest rates three times in 2018 which should support U.S. yields and in turn the Dollar, but it may now be joined by an increasing number of other central banks who could also start raising interest rates too which means their currencies will rise too.

Importantly, the greatest boost to currencies tends to come at the beginning of the interest rate hiking cycle, with effects thereafter decreasingly with each hike.

"Once past the third move in a tightening or easing phase, a central bank loses its ability to shock the market or even influence it in a major way," says BMO European Head of FX Strategy Stephen Gallo.

Given the Fed already raised rates three times in 2017 future hikes may have diminishing returns for USD, suggesting from an FX perspective the negatives are staking up.

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Chart's Suggest Further Gains for Sterling versus the Dollar

From a technical point of view, GBP/USD looks poised for further gains.

It has broken through a major trendline drawn from the 2014 high, which is a very bullish sign, and although it pulled back temporarily, it has now resumed going higher.

It has surpassed the December 1 highs at 1.3552, which is a further significant bullish development, and reached our initial target at 1.3600. 

However, we note that this level should offer substantial resistance to Sterling advances, and a pause or retracement in the short-term is highly likely.

"Both EUR/USD and GBP/USD are currently facing major resistance just below 1.22 and 1.36 respectively, suggesting pivotal moves out of the recent bullish phase," says Olivier Korber, a strategist with Société Générale in Paris. "We expect the Euro to climb higher and assault 1.25, whereas GBP/USD should not see further gains but rather consolidate towards 1.30."

Also cautious is Cross Asset Strategist Robin Wilkins at Lloyds Bank Commercial Baking, who sees the 1.36-1.39 region as "strong resistance and ideally the top of an ongoing medium-term range. As such, we see the upside as limited."

Commerzbank Analyst Karen Jones is very bullish the pair and reckons the resistance will however ultimately give way, stating, "a strong rally places the spotlight on the 1.3658/71 September high."

Hantec Markets' Perry is also bullish and envisions the possibility of a break above the September highs:

"With the market again looking positive in early moves today, a move on the key resistance of the September high at $1.3655 is building."

We note that a strong continuation pattern has formed on the daily chart composed of the last three day's price action.

The pattern is formed of an initial long green up day followed by a much smaller squat day with a much shorter range and finally a third long green update similar in length to the first day.

I have outlined these on the chart below.

The pattern indicates a probable continuation of 150 points above the high of the third day.

It is normally more reliable when it occurs in the midst of an uptrend, which can be quantified by the ADX indicator, which measures how strongly the market is.

If ADX is between 20-30 these are optimal conditions for forecasting a reliable follow-through, unfortunately, the ADX indicator is only at 15, so this is not an optimal set-up.

The next level of strong resistance above the current market level is at 1.3602 where the  R1 monthly pivot is situated.

Pivots are an obstacle to further upside since traders often anticipate resistance at these levels, which leads to increased order flow as speculators attempt to make a quick profit on the expected pull-back.

Although the market has already probed above R1 at the recent highs we would want to see a clear break above R1 for confirmation, reflected in a move above 1.3620 which would see the exchange rate properly break out of the range and move up towards a target at 1.3700 at the level of the R2 monthly pivot.

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