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While the markets focus on Fed, the Sterling steadily rallies

Last week, the FOMC meeting showed that the Fed was on track for a rate hike in 2015. Of course, the meeting was not as straight forward with a lot of variables in play. Questions still remain as to the number of rate hikes as well as by how much the Fed would hike the interest rates. The markets shifted attention to the Fed's Staff Economic Projections or SEP, where the FOMC members lowered the GDP for the year while expecting to see a higher unemployment rate. The FOMC projections left inflation unchanged. With a dovish-neutral outlook the US Dollar turned weaker across the board before managing to stabilize and trim some of its losses.

It is quite clear the markets are overly focused onto the Federal Reserve and interest rates in the US while missing out on other opportunities. The opportunity that we speak about comes from the Pound Sterling where the basic fundamentals are showing evidence that the UK economy has turned around the corner.

UK Fundamentals slowly turning positive

The rally in the GBPUSD was fundamentally supported with an improving wages in the UK labour market and one that sits at a healthy 5.5%. Retail sales data over the months also show signs that the average UK consumer is spending than compared to the previous quarters. Of course, the only big glitch to this prognosis is the fact that consumer inflation has been relatively weaker when compared to most other indicators. But we expect that inflation should also start rising sooner than later considering that the WTI Crude Oil prices have managed to largely stabilize above the $58 handle and trading steady within the $60 -$61 highs.

Market expectations for BoE

Currently, the markets have priced in a BoE rate hike in early 2016 and there is reason to believe that a certain level of complacency has set in, in this regards. Of course the BoE members have been largely quiet on aspects of forward guidance with regards to interest rate hikes. Recent MPC meeting minutes continue to show unanimity among the voting members to keep interest rates unchanged at 0.5%, although some members have started to be more vocal noting that the next change in interest rates would most likely be a rate hike. The second quarter of this year should possibly offer some early clues into a shift from the BoE members. If economic data continues to support the bullish view, the Bank of England could very well look towards hiking interest rates in 2015 itself.

GBPUSD Technical Analysis

Ever since the election results were announced in early May this year, the Pound Sterling has continued to gain strongly across the board and more importantly against the Greenback. Forming a base near lows of 1.476, the GBPUSD carved out an inverted head and shoulders pattern. This major reversal pattern gains significance as the trend reversal pattern took close to 122 days, and comes right after a strong bearish trend.

In our previous analysis, our readers were pointed to the Head and Shoulders pattern that was formed with an upside target to 1.592. Last week, the GBPUSD briefly tested near this level to post an 8-month high at 1.5929.

For the near term we do not rule out a decline back to the broken resistance level near 1.55275 and 1.5426 to establish support. This could potentially open up the current resistance near 1.592 to give way for GBPUSD to possibly test previous highs near 1.60 and 1.62 levels quite easily.

Currently, the market view as far as the US Dollar and the Federal Reserve is concerned, is the fact that the markets are still not convinced about the rate hikes this year. This is largely due to the fact that inflation or PCE has been very subdued and something which the FOMC members acknowledge. Also with expectations that the unemployment rate may remain near current levels as more people get back into the job markets, the Federal Reserve’s dual mandate seems to offer not much of a bright spot for the markets. It is no surprise therefore that some institutional banks such as Goldman Sachs expect to see a US rate hike only in December 2015 going against the general market opinion.

While economic data for the US might not be that supportive of a rate hike, the UK economy definitely is starting to look stronger in comparison. Of course, there are a few minor points such as inflation which needs to pick up, with the pace of growth in the average earnings, that shouldn’t be too far away.

Tuesday, 23 Jun, 2015 / 10:55

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