Sterling Sidesteps The “Brexit” Apocalypse

After a campaign fraught with hyperbole and dominated by fearmongering, the dire warnings about the implications of a UK exit from the European Union pushed by the “Remain” camp still have still not come to fruition. Aside from the initial shock in the Pound following the referendum vote, the UK remains business as normal. As the latest data from services, manufacturing, and even inflation show, the warnings about a potential economic collapse were severely over-exaggerated as the UK economy continues to chug along. While difficult to argue, the massive depreciation in the UK Pound actually turned out to be a net positive from many perspectives as the administration under the stewardship of Prime Minister Theresa May prepares the country to exit the European Union with the triggering of Article 50.

Crisis Averted

As recent data suggests, the UK economy remains in a state of stasis despite the risks of companies moving their operations out of the UK. As exit negotiations pick up steam, many EU countries have gone as far as warning the UK that they will not be able to benefit from certain rules while choosing to ignore others, namely freedom of movement. However, when it comes down to it, this factor was one of the primary items the “leave” campaign categorically rejected. While the UK wants to maintain a strong trade relationship with the single-market, it has angered regional peers in its push for increased sovereignty and border control. There is no denying that the UK may still be subject to a near-term dislocation as companies determine the viability of remaining in the UK, however, the gains in trade competitiveness are already evident thanks to the rapid GBPUSD depreciation.

Since falling nearly -15.00% after the decision, the GBPUSD pair has rebounded dramatically back to the upside on the heels of a bounce in economic activity. According to the latest figures, trade has been one of the biggest beneficiaries of the decision to exit, with exports climbing 1.90% during the month of July versus June. Most of the gains were surprisingly the result of increased trade with the EU, which rose by 9.10% during the same period. Aside from improved exports, recent inflation data points to continued improvements in underlying fundamentals. Consumer price data released earlier in the session saw annualized headline inflation remain steady at 0.60%, matching a 20-month reached back in July while rising by 0.30% on a monthly basis. Producer prices also benefited, with headline PPI rising to 0.80%, the fastest pace of producer inflation since early 2014 after nearly two years of deflationary territory.

Upward Pound Pressures Pickup

The gains in fundamentals, specifically inflation could mean that the low interest rate environment and accommodative monetary policy measures will not be a longer-term strategy, especially considering current levels of GDP growth.Even though growth could experience a minor retreat on the back of weaker business spending, other critical fundamentals are signaling suggesting the Pound has further room to rise over the near-term despite GBPUSD trending mainly range bound between resistance sitting at 1.3500 and support standing firm at 1.2850. This could suggest more sideways price action for the pair over the near-term, especially considering the volatility of the US dollar which is growing increasing sensitive to interest rate speculation. However, absent the US dollar, the UK outlook continues to strengthen as evidenced by the data.

Supporting further upside in the pair over the near-term is the 50-day moving averages which is currently trending below the price action. An additional bullish indication comes in the form of an emerging upward trending equidistant channel formation. The pattern, which began earlier in August, suggests an upside target of 1.3500 which coincides with the upper channel line, meaning ideal positions are to be initiated near the lower channel line.However, the 200-day moving average on the upside continues to trend lower, acting as resistance against any sustained rally in the pair that sees GBPUSD return above 1.4000. Additionally, a move below the lower channel line could suggest a channel-based breakout, resulting in a retest of the 1.3000 psychological level before another retreat towards major support at 1.2850.

Looking Ahead

Although the GBPUSD pair fell after inflation data was reported by the UK Office for National Statistics, looking ahead, the interest rate decision due from the Bank of England Monetary Policy Committee later in the week could tip the scales in favor of the Pound, especially when considering the high level of uncertainty leading up to next week’s FOMC decision. Recovering fundamentals indicate that progress on the UK economy is being made, especially when taken in the context of inflation, unemployment, and growth. With that in mind, more positive economic reports are likely to stoke further upside momentum in the Pound over the medium-term. The one item that could derail another rally in the GBPUSD pair is rising US rates which could feed US dollar appreciation over the medium-term.