- Pound Sterling vs US Dollar weakens after the BoE meeting, after Andrew Bailey’s comments on easing inflationary pressures.
- Nevertheless, BoE Chairman adds that inflationary risks are still skewed to the upside and secondary effects are persistent.
- Another shooting star candlestick reversal pattern forms at the GBP/USD May highs but requires confirmation from a bearish close.
The Pound Sterling (GBP) experiences heightened volatility against the US Dollar (USD) following the Bank of England (BoE) monetary policy meeting on Thursday. It is trading in the 1.25s at the time of writing, showing a bearish short-term bias as investors digest the BoE event.
GBP/USD initially fell following the BoE’s announcement of its decision by a vote of 7-2 to raise interest rates by 0.25% bringing the Bank Rate to 4.50%.
Dovish opening remarks from the BoE’s Chairman Andrew Bailey further weighed on the pair, after he said the committee had good reason to believe headline inflation would fall considerably from April onwards. The Pound Sterling recovered later during Bailey’s press conference, however, when he emphasized secondary effects and how “risks to inflation continue to be skewed to the upside as secondary effects persist”.
The overall feel to the event was upbeat as the BoE revised up its projections for economic growth over the next two years from negative to positive.
From a technical perspective, GBP/USD remains in a long-term uptrend, advantaging long over short holders.
GBP/USD market movers
- The Bank of England (BoE) policy meeting goes as expected with no surprises. The BoE raises interest rates by 25 bps to 4.50% by a vote of 7-2, the same as at its last meeting.
- BoE’s Bailey talks about how inflation readings will show a dramatic fall in April as the base effects from elevated fuel and food prices from a year ago drop out of the equation.
- He talks about signs inflation more generally is easing but then adds that the secondary effects of high inflation continue to persist, and that the risks to inflation in the future remain “skewed to the upside”. The Pound Sterling recovers after these comments.
- Inflation in the UK is at 10.1% which is more than double the 4.9% reading in the US. Core Inflation is closer at 6.2% in the UK versus 5.5% in the US, nevertheless it suggests the UK will have to continue raising rates after the Federal Reserve (Fed) has stopped. This should benefit GBP over USD as global investors favor currencies with higher interest rates to park their money.
- The CME Group FedWatch Tool is showing a 90% probability of no further interest rate hikes from the Fed. In addition, the Fed removed wording that further monetary tightening would be required in its last statement. The BoE, on the other hand, kept similar wording in its statement.
- The US Dollar is at risk from US debt ceiling default risk. US Treasury Secretary Janet Yellen warned on Thursday that a US default on a failure to raise the debt ceiling would produce an “economic and financial catastrophe.”
- The US Bureau of Labor Statistics released the Producer Price Index (PPI) for April, with both annual headline (3.2% vs 3.3% expected) and core figures (2.3% vs 2.4% expected) coming below expectations.
- The US Department of Labor’s weekly Initial Jobless Claims disappointed, with 264K new first-time unemployment claims, more than the 245K expected.
GBP/USD technical analysis: Shooting star reversal seeks confirmation
GBP/USD broadly-speaking keeps extending its established uptrend making progressively higher highs and higher lows, and this is likely to continue bar a break below the 1.2435 May lows, still favoring Pound Sterling longs over shorts, for now.
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GBP/USD: Daily Chart
On Wednesday, the market formed a shooting star Japanese candlestick reversal pattern on GBP/USD, indicating the possibility of a short-term bearish reversal. The pattern, however, still awaits confirmation from a bearish close on Thursday. Given the sell-off after the BoE meeting this now looks highly likely. A bearish close would open the way for more short-term downside, probably to support at the base of the rising channel/wedge, located at around 1.2475.
The Relative Strength Index (RSI) is declining after showing mild bearish divergence between price at the May peaks and RSI. This is indicative of underlying weakness, and further suggests more short-term downside.
Yet, given the overall trend is bullish, the exchange rate will probably recover and continue rallying. The May 2022 highs at 1.2665 provide the first resistance level, but once breached they open the way to the 100-week Simple Moving Average (SMA) situated at 1.2713, and finally at the 61.8% Fibonacci retracement of the 2021-22 bear market, at 1.2758. All provide potential upside targets for the pair. Each level will need to be decisively breached to open the door to the next.
Decisive bearish breaks are characterized by long daily candles that break through key resistance levels in question and close near their highs or lows of the day (depending on whether the break is bullish or bearish). Alternatively, three consecutive candles that break through the level can also be decisive. Such insignia provide confirmation that the break is not a ‘false break’ or bull/bear trap.
US Dollar FAQs
What is the US Dollar?
The US Dollar (USD) is the official currency of the United States of America, and the ‘de facto’ currency of a significant number of other countries where it is found in circulation alongside local notes. It is the most heavily traded currency in the world, accounting for over 88% of all global foreign exchange turnover, or an average of $6.6 trillion in transactions per day, according to data from 2022.
Following the second world war, the USD took over from the British Pound as the world’s reserve currency. For most of its history, the US Dollar was backed by Gold, until the Bretton Woods Agreement in 1971 when the Gold Standard went away.
How do the decisions of the Federal Reserve impact the US Dollar?
The most important single factor impacting on the value of the US Dollar is monetary policy, which is shaped by the Federal Reserve (Fed). The Fed has two mandates: to achieve price stability (control inflation) and foster full employment. Its primary tool to achieve these two goals is by adjusting interest rates.
When prices are rising too quickly and inflation is above the Fed’s 2% target, the Fed will raise rates, which helps the USD value. When inflation falls below 2% or the Unemployment Rate is too high, the Fed may lower interest rates, which weighs on the Greenback.
What is Quantitative Easing and how does it influence the US Dollar?
In extreme situations, the Federal Reserve can also print more Dollars and enact quantitative easing (QE). QE is the process by which the Fed substantially increases the flow of credit in a stuck financial system.
It is a non-standard policy measure used when credit has dried up because banks will not lend to each other (out of the fear of counterparty default). It is a last resort when simply lowering interest rates is unlikely to achieve the necessary result. It was the Fed’s weapon of choice to combat the credit crunch that occurred during the Great Financial Crisis in 2008. It involves the Fed printing more Dollars and using them to buy US government bonds predominantly from financial institutions. QE usually leads to a weaker US Dollar.
What is Quantitative Tightening and how does it influence the US Dollar?
Quantitative tightening (QT) is the reverse process whereby the Federal Reserve stops buying bonds from financial institutions and does not reinvest the principal from the bonds it holds maturing in new purchases. It is usually positive for the US Dollar.
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