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Dark clouds looming for sterling

The outlook for the UK economy doesn’t seem quite prosperous in the near and medium term, so far. Apart from the one-off bounce from the last Olympics, the economic activity of the island nation is back to its worrisome scenario, threatening to post a three-dip recession after the preliminary GDP contraction during the last quarter of 2012

… Blame it on the euro

Since July 2012 when the single currency posted its yearly lows around the mid 1.20s, the euro initiated a relentless ascent to the actual region of 1.3480-1.3700. The pound, however, has taken a bumpier road, almost hitting 1.64 at the beginning of the present year, before falling more than seven big figures since to its 2013 low of 1.5675

In addition, after Draghi’s exaltation of the euro area in the last ECB meeting, investors’ confidence in the bloc improved dramatically. As an almost immediate response, inflows into the quasi-safe-haven pound has not only halted but also seen the trend flip back towards the euro. Consequently, this has increased GBP’s vulnerability to UK weak fundamentals. However, there seems to be an implicit agreement among UK officials that a weaker pound would be more than welcome to spark the belated recovery.

The Bank of England would hold its MPC gathering on Thursday, and although the broad market consensus expects the central bank to remain on the sidelines, that is, leaving the lending benchmark at 0.50% and the Gilts purchases at £375 billion, the speech by the next Governor M.Carney looks like it will grab all the headlines. Recall that Carney has hinted at the adoption of a nominal GDP target, replacing the actual inflation target, in order to achieve a more sustainable recovery of the British economy and avoid the so-called ‘triple-dip’ recession. Although this measure could take longer to materialize, it all points to a weaker sterling in the upcoming months.

At the moment, GBP/USD is hovering over the 50% Fibonacci retracement of the move up from 2012 lows around 1.5270 to 2013 highs in sub 1.64 levels. Further pullbacks would find initial support at the 61.8% retracement at 1.5695 ahead of 1.5490 (low August 2 2012) en route to 1.5393 (low July 12 2012).

In line with the bearishness surrounding cable, Jane Foley, Senior Strategist at Rabobank commented “Although pullbacks are likely along the way, we expect that EUR/GBP will end the year back in the 0.88 – 0.89 area, where some congestion is likely… We expect cable to push towards the 1.55 area on a 6 mth view”.

Another technical view comes from the Bullish Percentage Index developed by the research team at FXstreet.com. The index is currently showing that 55% of GBP-based pairs are still in bullish mode, according to point and figure patterns.

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