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Jack Schwager Might say "Go Long the British Pound" after Failed Signal

- GBP/USD has climbed to 1.3420

- A high probability bearish trading signal has been ignored

- This suggests a major bottom may be in place says Market Wizards author

Exchange rate analysis

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It was Jack Schwager, author of the Market Wizards series, who said that the best trading signals are failed signals, by which he meant that when a high probability trading setup fails its often a signal the market will go in the opposite direction in a pretty strong way - i.e. the market could be topping or bottoming.

The notion is a consolation to traders as out of the ashes of failure can come success.

For example, if the chart is telling you to go long and you enter a trade and it fails spectacularly even though it looked like a great five-star set-up, it is often a sign the market has topped and is now going down in a big way.

You can then reassess and treat the failure as a high probability signal in the opposite direction.

The interesting thing about this in relation to current market activity is that Schwager's principle can be applied to recent market action on GBP/USD, which pulled back into a 'sell-zone' where it looked beautifully poised to go lower, but then spectacularly failed as the market simply ignored the bear signal and carried on going higher.

The chart below shows the set-up in question - the exchange rate, which had been in a strong downtrend since the 1.44 April highs bottomed on May 29 and pulled back into the space between the 10 and 20 moving averages, also known as the 'sell-zone'.

GBP USD sellzone

It then formed a bearish candlestick pattern called a 'shooting star' which has a long range but a small body concentrated in the bottom half of the range. At this point, all three criteria for a high probability trade setup to go short had been qualified. It looked like a five-star bearish signal.

Yet in the end, the market simply 'custard pied' (to use a piece of contemporary slang I like at the moment which means 'ignored') the set-up and just went higher.

GBP to USD June 6

Following Schwager's principle, this could be a sign the market has bottomed and will move substantially higher.

Just to offer an example of a successful signal for comparison, the chart below shows a similar set-up on EUR/USD, which was successful.

EUR USD example

Yesterday I noted how analysts at Maybank were discussing how the Pound had now fallen to "attractive buy levels against the US Dollar" and although I noted the bearish set-up as a reason to be cautious about going long, its subsequent failure could be a sign Maybank were right.

One of the key reasons for seeing GBP/USD as an attractive buy is that it fell to the midpoint, or 0.50 Fibonacci retracement of the previous bull rally, a level at which analysts say there is a heightened probability of reversal and resumption of the uptrend.

The technical moves come on the back significant fundamental shifts in the outlook for Brexit after the second largest party in Britain, Labour shifted its official position from being pro-Brexit to advocating continued membership of the common market.

A better-than-expected services PMI reading also surprised analysts who had been increasingly pessimistic about the outlook for the UK economy, restating its reputation for resilience.

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