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GBP/USD: Trading the U.K. Advanced 2Q GDP Report

GBP/USD: Trading the U.K. Advanced 2Q GDP Report

2010-07-22 08:27:00
David Song, Currency Strategist
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Trading the News: U.K. 2Q GDP

Why Is This Event Important:


However, the Bank of England maintain a cautious outlook for the region and said that the economic outlook as “deteriorated a little” after maintaining its current policy earlier this month, and went onto say that “the committee considered arguments in favour of a modest easing in the stance of monetary policy” in order to balance the downside risks for future growth.

What’s Expected:
Time of release:        07/23/2010 8:30 GMT, 4:30 EST
Primary Pair Impact :    GBPUSD
Expected:         0.6%
Previous:         0.3%

Will This Be Market Moving (Scenarios):

The advanced 2Q GDP report for the U.K. is forecasted to show a 0.6% rise in the growth rate after expanding 0.3% during the first three-months of 2010, while economic activity is projected to increase at an annual pace of 1.1%, which would be the first positive reading since 2008. As the economy emerges from the recession, the central bank may see scope to begin normalizing policy going into the following year, and board member Andrew Sentance may continue to dissent against the major and vote to increase the benchmark interest rate as inflation continues to hold above the government’s 3% limit for price growth.

The Upside

As the region benefits from the rise in global trade, with businesses expanding their rate of production throughout the first-half of the year, the growth rate could exceed expectations, which would spark a bullish reaction in the British Pound as the outlook for future growth improves. As a result, the BoE may see scope to withdraw monetary stimulus over the coming months, and may switch gears and look to target inflation in order to bring price growth back towards the 2% target.

The Downside

However, as households face continue to face tightening credit conditions paired with fears for a protracted recovery, the ongoing slack within the private sector could lead to a disappointing growth report, which could weigh on the exchange rate as investors weigh the prospects for future growth. Accordingly, the central bank may look to support the real economy going forward and maintain a dovish stance going forward as the new coalition in Britain plans to target the budget deficit and tighten fiscal policy.

How To Trade This Event Risk

Trading the given event risk certainly favors a bullish outlook for the British Pound as market participants expect the economy to expand at a faster pace in the second quarter, and price action following the GDP report could set the stage for a long Cable trade as the outlook for future growth improves. Therefore, if the growth rate rises 0.6% or greater from the first three-months of this year, we will need a green, five-minute candle subsequent to the release to generate a buy entry on two-lots of GBP/USD. Once these conditions are fulfilled, we will place the initial stop at the nearby swing low or a reasonable distance after taking market volatility into account, and this risk will establish our first target. The second objective will be based on discretion, and we will move the stop on the second lot to cost once the first trade reaches its mark in an effort to lock-in our profits.

In contrast, the weakness within the financial sector paired with the ongoing slack in the private sector could weigh on growth, and a dismal GDP report could spur a drop in interest rate expectations, which in turn would drag on the exchange rate. As a result, if the economy expands 0.3% or less during the second-quarter, we will favor a bearish outlook for the sterling, and will implement the same strategy for a short pound-dollar trade as the long position laid out above, just in reverse.

07.22_TTN1

Impact that the U.K. 1Q GDP has had on GBP during the last quarter

07.22_TTN4

2010 U.K. 1Q GDP

Economic activity in the U.K. expanded 0.2% in the first quarter amid forecasts for a 0.4% rise in GDP, while the growth rate slipped 0.3% from the previous year to mark the slowest pace of decline since the second quarter of 2008. The Statistics office said service-base activity, which counts for more than two-thirds of the economy, increased 0.2%m with industrial outputs rising 0.7% from the last three-months of 2009, while construction weakened 0.7% in the first quarter. As the economy struggles to brush off the recession, with households facing tightening credit conditions paired with the deterioration in the labor market, the Bank of England is likely to support the real economy throughout the first-half of the year as it aims to encourage a sustainable recovery. At the same time, Chancellor of the Exchequer Alistair Darling said withdrawing the government stimulus now would endanger the recovery and argued that the outlook for future growth remains “entirely dependent” on public support. 07.22_TTN3

What To Look For Before The Release
Traders with access to market depth information via the FXCM Active Trader Platform may use it to gauge the potency of the economic data release as well as to shed some light on the market’s directional bias. Increasing volume ahead of the announcement will telegraph likely follow-through behind whatever move is to materialize, while an imbalance in available liquidity on the Bid versus the Offer side of the market will tell us the direction major institutions are likely favoring ahead of the announcement:

Bullish Scenario:

If we see substantially deeper available liquidity on the Bid side of the market, this tells us that major price providers in the market are looking to buy the GBP against the US Dollar. Considering that close to 60% of all FX market volume is cleared through just six top banks, we see it prudent to be on the same side of the trade as major institutions and will favor a bullish bias on GBPUSD ahead of the data release.
Bearish Scenario:

If we see substantially deeper available liquidity on the Offer side of the market, this tells us that major price providers in the market are looking to sell the GBP against the US Dollar. Considering that close to 60% of all FX market volume is cleared through just six top banks, we see it prudent to be on the same side of the trade as major institutions and will favor a bearish bias on GBPUSD ahead of the data release.
00001_GBP 00002_GBP

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To discuss this report contact David Song, Currency Analyst: instructor@dailyfx.com

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