The following article was written by Ipek Ozkardeskaya, Senior Market Analyst at FCA regulated broker London Capital Group Holdings plc (LON:LCG).
Ipek Ozkardeskaya, LCG
The British pound rallied on the back of the solid inflation data released on Tuesday. The UK’s headline inflation accelerated at the pace of 2.3% year-on-year on February from 1.8% printed a month earlier. This was much faster than analyst expectations of 2.1%.
The core inflation rose to 1.7% year-on-year from 1.6% printed in January.
Why did higher UK inflation trigger a pound rally?
The inflation in the UK breached the Bank of England’s (BoE) 2% target for the first time in three years and came in only a week after the BoE’s Monetary Policy Committee (MPC) voiced concerns regarding the rising inflationary pressures due to an ultra-expansive monetary policy and the cheap pound.
In its latest meeting, the MPC voted eight to one to maintain the bank rate at the historical low level of 0.25%.
Kristen Forbes voted in favour of a rate hike. More importantly, several members hinted that they may soon share her opinion. The rising inflation somewhat translated into the BoE’s temperament.
The February data has been an endorsement to rising concerns regarding the inflation in the UK. Hence, the data revived expectations that the BoE may be constrained to raise the interest rates sooner rather than later.
The sharp upturn in hawkish BoE expectations triggered a rally in the pound markets.
What is the potential for the actual bullish development?
Cable rallied past its 100-day moving average for the first time in three weeks. The technical indicators suggest that the path is clear for a further rise.
The daily MACD (Moving Average Convergence Divergence) turned neutral from negative and prepares to step into the bullish territory shortly. A bullish MACD reversal would hint at the possibility of an enhanced positive momentum and could encourage additional traders to jump on the back of a bull.
The GBPUSD could extend gains to 1.2565 (minor 76.4% retracement on February – March decline), before attempting to 1.2609, the 200-day moving average. As such, the pound would reach its 200-day moving average for the first time since June 23rd, the Brexit referendum.
Depending on how much the Federal Reserves (Fed) hawks lose ground, the GBPUSD could challenge 1.2705 (February 1st high) and 1.2774 (December 5th high).
On a larger time scale, the pound remains comfortably in the bearish consolidation zone against the US dollar. The key mid-term resistance is eyed at 1.3043, the major 38.2% retracement on post-Brexit sell-off). Up to this level, there will be no question about a fundamental shift regarding the divergence between the Fed and the BoE’s monetary policy outlook.
Although the BoE adopts a cautiously hawkish tone in the coming quarters, it will certainly remain comfortably behind the Fed, which is expected to raise the US rates by two additional times in 2017, in June and in December.
As a result, the pound is left with a sufficiently large upside potential and could factor in nearly five more figures on the back of the hawkish BoE speculations.
Dip-buyers are expected to give a further support to the actual positive development above 1.2412/1.2408 (100-day moving average, a former resistance turned to support / Fibonacci 50% retracement on February – March decline) and 1.2337 (major 38.2% retracement).