Brexit Latest: Deal Fails to Inspire GBP/JPY, GBP/USD Breakouts

Brexit Deal Overview:

• It’s the first full trading day since the Brexit deal was announced and the British Pound is trading…lower? Both GBP/JPY and GBP/USD rates have endured losses on the session.
• Concerns about a Brexit leading to a potential breakup of the United Kingdom are starting to make their way back into conversation.
• Retail trader positioning suggests a mixed bias to GBP/USD, but a bullish bias to GBP/JPY rates.

Brexit Deal’s Unintended Consequences

It’s the first full trading day since the Brexit deal was announced and the British Pound is trading…lower. That seems like a surprise, insofar as instances of negotiations teetering proved to drag down Sterling. That there hasn’t been a more positive reaction in the GBP-crosses could be a result of the illiquid holiday trading conditions; on the other hand, there has been plenty of volatility in the US Dollar today following the fiscal stimulus and government shutdown news.

It may be time for traders to circle back to what seems like a niche issue: Scottish independence. Scottish First Minister Nicola Sturgeon has been adamant in her displeasure with the Brexit deal achieved by UK Prime Minister Boris Johnson, in part because of the timing around the coronavirus pandemic. And while it may be ironic that Scottish FM Sturgeon was pushing for an ‘-exit’ of her own during the pandemic, the fact remains that a second independence referendum is indeed a fly in the ointment for the British Pound.

To be clear, a second Scottish independence referendum in 2021 seems unlikely, unless the pandemic magically disappears overnight (it won’t). Instead, the mere prospect of a potential dissolution of the United Kingdom as an unintended consequence of a Brexit largely opposed to by Scotland (which favors staying in the EU over the UK by a near two-to-one margin, according to polls) may prove to be an albatross around the British Pound’s proverbial neck moving forward (in line with our Top Trade of the Year forecast, calling for GBP rates to finish 2021 close to where they started the year).

GBP/JPY RATE TECHNICAL ANALYSIS: DAILY CHART (DECEMBER 2019 TO DECEMBER 2020) (CHART 1)

A Brexit deal has arrived, but GBP/JPY rates have been uninspired to rally – even as global equity markets continue their run higher. The sideways trading that has marked December continues, even as the range resistance coincides with symmetrical triangle resistance from the August and early-December swing highs (dating back to the March coronavirus pandemic low). This resistance has been carved out near 140.01, the 76.4% Fibonacci retracement of the 2020 high/low range.

Even though GBP/JPY rates are working on a bearish piercing candle on the daily chart, bullish momentum remains in vogue. GBP/JPY rates are above their daily 5-, 8-, 13-, and 21-EMA envelope, which is in bullish sequential order. Daily MACD is rising while above its signal line, while daily Slow Stochastics are pointing higher above their median line. It still holds that traders may want to be on alert for a potential bullish breakout opportunity in GBP/JPY rates – even if that means waiting another week until the holiday trading period ends.

IG Client Sentiment Index: GBP/JPY Rate Forecast (December 28, 2020) (Chart 2)

GBP/JPY: Retail trader data shows 45.88% of traders are net-long with the ratio of traders short to long at 1.18 to 1. The number of traders net-long is 1.79% higher than yesterday and unchanged from last week, while the number of traders net-short is 16.96% higher than yesterday and 22.27% higher from last week.

We typically take a contrarian view to crowd sentiment, and the fact traders are net-short suggests GBP/JPY prices may continue to rise.

Traders are further net-short than yesterday and last week, and the combination of current sentiment and recent changes gives us a stronger GBP/JPY-bullish contrarian trading bias.

GBP/USD RATE TECHNICAL ANALYSIS: DAILY CHART (DECEMBER 2019 TO DECEMBER 2020) (CHART 3)

Like GBP/JPY, GBP/USD rates have not advanced in the wake of the Brexit news. The descending trendline from the November 2007 and July 2014 highs continues to serve as resistance, with the pair failing to return back to the yearly highs carved out in mid-December. As GBP/USD rates funnel into the vertex of the ascending triangle – the combination of price and time suggests that a breakout may soon occur, if the pattern interpretation is valid – it still holds that traders want to be on alert for a potential bullish breakout opportunity through 1.3539, which would be another piece of evidence that a long-term bottom has formed in GBP/USD rates.

IG Client Sentiment Index: GBP/USD Rate Forecast (December 28, 2020) (Chart 4)

GBP/USD: Retail trader data shows 49.71% of traders are net-long with the ratio of traders short to long at 1.01 to 1. The number of traders net-long is 1.53% higher than yesterday and 20.52% higher from last week, while the number of traders net-short is 4.69% higher than yesterday and 7.37% higher from last week.

We typically take a contrarian view to crowd sentiment, and the fact traders are net-short suggests GBP/USD prices may continue to rise.

Positioning is more net-short than yesterday but less net-short from last week. The combination of current sentiment and recent changes gives us a further mixed GBP/USD trading bias.

--- Written by Christopher Vecchio, CFA, Senior Currency Strategist