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GBP/JPY Channel Points to Potential Reversal

GBP/JPY Channel Points to Potential Reversal

2010-05-20 19:56:00
John Rivera, Currency Analyst


How Stable is the GBP/JPY Range?

Levels to Watch:
-Range Top: 145.00 (Trend, SMA, Pivot)
-Range Bottom: 127.00 (Trend, Pivot)

• A broad flight to safety has led to major yen gains on the back of the carry trade unwind. Prior sterling weakness had driven earlier losses as fears grew that the U.K. could eventually find itself in the path of the debt crisis. A dovish BoE following their quarterly inflation report had also weighed on the pound. However, we have started to see the pound regain its footing against the dollar and that could translate to the GBP/JPY which has already experienced a significant retrace from its recent losses.
• The GBP/JPY bounced from trend line support today which is defined by connecting the 5/21,9/28 and 3/1 lows). The upper bound is drawn from the 6/12 and 4/26 highs. We are also seeing the 200-Day SMA at 144.76 reinforcing the top barrier giving it validity as a target.

Suggested Strategy
• Long: Place an entry at 132.00 to confirm retracement.
• Stop: Set the stop to 130.00
• Target: The first target is 135.00 followed by 20-Day SMA at 138.79

Trading Tip – The longer-term nature of the descending channel for the pair gives it validity. We often see these formations that in the short-term make no sense ending up proving correct. The prevailing pessimism over global growth, concerns that the debt crisis will eventually find itself on the U.K.’s doorstep, a central bank in no hurry to raise rates and a new government looking to make major cuts in spending all point toward further sterling weakness. The pound’s demise may come in time but nothing moves in a straight line which could lead to the necessary retracement to make our set-up profitable. Of course, a break below trend line support near 127.00 would change our bias and is not out of the question given the number of long-term trend lines that we have seen fall in the past few days. In fact the break of the EUR/AUD resistance trend line reflects our point, when you consider the state of the two economies at this point in time.

Event Risk for Japan & U.K.

Japan –The upcoming Bank of Japan rate decision holds the only market moving potential for Japanese data as the yen has been predominantly driven by risk trends. However, we may see the policy meeting upstaged by the expectations that Governor Shirakawa will announce a plan to encourage banks to loan to business with growth potential. The measure isn’t expected to cure the country’s deflation problem which will limit its potential impact and maintain the Asian currency’s correlation with risk.

U.K. – The upcoming public net borrowing report could help generate sterling support if its shows that the government’s shortfall is already heading in the right direction. The new government which includes a coalition of Conservatives and Liberal Democrats publish the details of its agreement which includes cutting the budget deficit and taking measures to encourage lending to small and medium size businesses. If the government has a smaller than anticipated task at hand, it could raise the growth outlook for the country and the prospect for a rate hike. The second reading of GDP could also provide volatility if it adds to the prevailing dimming outlook or surprises to the upside, restoring hope that the recovery can sustain.


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