GBP/USD – A Bumpy Road Looking Ahead

The British Pound made headway against the US dollar testing highs in the 1.58's until Tuesday when global stock markets

The British Pound made headway against the US dollar testing highs in the 1.58’s until Tuesday when global stock markets crashed causing huge volatility in the FX markets. The pair fell and continues to fall, now testing 1.54 lows.

Augusts’ Bull run (before Tuesday’s events) was due to comments made by Bank of England (BoE) Governor Carney that there will be interest rate hikes early next year. However economic data for the UK this month has disappointed; industrial production was lower than previous data at -0.4% MoM and 1.5% YoY compared to 0.3% and 1.9% expected. However, core inflation rate did rise to 1.2% from 0.8% YoY and unemployment claims fell by 4,900. This month’s BoE meeting saw 1 board member, out of 9, vote for a hike in interest rate, an early signs that the board may be moving toward a hawkish view on interest rates.

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Increased Volatility

Following Tuesday’s downfall, there has been a sharp correction in the stock markets which seems to have hurt GBP against USD.  It is usual that in times of crisis the US Dollar is considered a safe haven currency. In fact the greenback has strengthened against all major currencies during the past three days off the back of stock market uncertainty.

Yesterday’s drop in GBP/USD was a considerable, a 228 pip decline, which is a price move not seen in this pair for many weeks. Volatility is on the rise; measuring volatility using 1-week GBP/USD at-the-money option prices the average volatility last week was 6.5% and today it is 8.33%. This means the market are expecting GBP/USD over the next week to fluctuate more i.e. trade in a larger range. This isn’t a surprise given the increase in stock market volatility.

Looking at upcoming economic events

Tomorrow at 08:30 GMT GDP growth rate will be released and the major news will be on September 10th at the next BoE meeting. The US has a string of data releases which started today; GDP growth rate and Personal Consumption Expenditure (PCE) were released. GDP came out 2.1% (0.1% higher than expected) and PCE 1.8%, as expected. Next week will be an important one in regards of US data; Tuesday there is manufacturing PMI (purchasing manager’s index), Wednesday we have ADP employment change and most importantly is Friday’s Non-Farm Payrolls expected to show 215,000 jobs added in August.

The GBP/USD bull trend may regain momentum if the stock market settles. Economic data from the US, especially Non-Farm Payrolls, will give more of clues as to how quick US interest rates will rise and this may affect the pair’s trading direction. If there are signs that the US rate hike will be delayed then USD may weaken and GBP/USD will set on an uptrend.

Technical Analysis

Looking at the day chart we can see that price has pierced a long support line (black line) that runs back to the beginning of May. It has also broken through the bottom side of the Ichimoku cloud (Vertical blue lined area), if the Lagging line (yellow line) will break below the cloud too and the Fast line (red line) to go below the slow line (blue line), then we would have the completion of a very strong Bear signal.

GBP/USD, technical analysis, chart, forex, trading
GBP/USD Chart

The following examples are option trades set-up via an online trading platform.

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Trade 1 – GBP/USD to rise

If you expect the pair to trade higher due to a strong UK GDP data or weak economic news out of the US next week, you may buy a Call option. If you hold a Call option you have the right to buy GBP/USD at a certain price until the option expires. For example, you may reserve the right to buy 10,000 GBP at 1.5414 (the strike) over the next 8-days (the expiry date of the option). This option contract will cost you a premium of 77.17 USD which is also your maximum risk.

If GBP/USD rises above 1.5414 (the strike) by expiry date (14:00 GMT September 4th), the option will pay out and you may profit. If the pair reaches 1.5570 the option will profit by at least 79 USD (over 100% return). If the pair does not rise you will lose the premium paid for the option (77 USD).

GBPUSD, Trading, forex

Trade 2 – GBP/USD to fall

If you expect a weak GDP report in the UK tomorrow and/or stronger than expected data in the US, you may buy a Put option. If you hold a Put option you have the right to sell GBP/USD at a certain price (the strike) until the option expires (expiry date).

For example, you may reserve the right to sell 10,000 GBP at 1.5416 (strike) for 8-days (expiry). The option contract will cost you a premium of 78 USD which is also your maximum risk.

GBP/USD, trading, forex

If GBP/USD falls below 1.5416 by the expiry date (14:00 GMT September 4th), the option will payout and you may profit. If the pair reaches 1.5260 the option will profit 78 USD (over 100% return). If the pair does not fall you will lose the premium paid for the option (78 USD).

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