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by Charalambos Pissouros

Pound Strengthens as May Takes Over Brexit Talks; Aussie Slides After CPIs, Trump Meets Juncker

The pound gained yesterday after UK Prime Minister Theresa May said she will take control over the negotiations with the EU. Overnight, the Aussie came under selling interest following the release of Australia’s inflation data for Q2. As for today, the focus will fall on the Trump-Juncker meeting, where trade is likely to take center stage.

UK Prime Minister May to Take Control Over Brexit Talks

The pound traded higher against all but one of the other G10 currencies on Tuesday. It gained the most against CHF, EUR, USD and JPY, while it underperformed only against SEK.

The British currency came under buying interest yesterday after UK Prime Minister Theresa May said she will take control over the negotiations with the EU. “I will lead the negotiations with the European Union, with the Secretary of State for Exiting the European Union deputizing on my behalf,” May said in a written statement to parliament.

Following her proposal to create a free trade area with the EU, the fact that she is taking the driver’s seat in the Brexit talks may have prompted market participants to increase their bets over a “soft Brexit”, or at least reduce those for a “no deal” scenario.

That said, uncertainty around the UK’s departure from the EU is far from diminished in our view. May’s plan still has to be accepted by the EU, something we still see as a hard task. Last week, EU chief Brexit negotiator Michel Barnier said that some elements of May’s white paper could open constructive discussions, but many questions remain. The proposals should be workable he added, which, in our view, implies that he once again sees the UK’s approach as “unworkable”.

Now, pound traders are likely to start turning their attention to next week’s BoE policy decision. UK data came out on the soft side last week, with core inflation slowing below 2% for the first time since March 2017. However, the market remained overwhelmed over the prospect of a rate hike, with the probability for such an action currently resting at 84%, according to the UK overnight index swaps (OIS). Thus, if indeed Carney and co. decide to raise interest rates, the attention will quickly turn to any hints over the Bank’s future plans. Investors will be looking for clues as to whether the Bank will consider (or not) proceeding with another hike this year.

GBP/JPY – Technical Outlook

After being in a steep fall since the 16th of July, GBP/JPY finally found support near the 145.45 zone, this way creating a tentative upside support line, drawn from the low of the 28th of June. Overall, the pair is trading below its prior long-term upwards moving trendline, taken from the low of the 17th of April 2017. From a longer-term perspective, this could mean that GBP/JPY could turn back down again at some point in the near future. That said, yesterday’s positive moves could be seen as the beginning of a good correction for the pair, before it could reverse back down again.

For now, looking at the shorter-term picture, GBP/JPY could continue correcting higher for a while more. Good potential areas of initial resistance could be the 146.65 or 146.85 levels. If these levels are not able to withhold the pair from moving higher, then we could start looking at the possibility for GBP/JPY to hit the 147.60 zone, marked by the high of the 19th of July. If that zone gets broken, this might interest more bulls to jump in, but this could not be seen a small recovery, but more like a full retracement with the longer-term upside back on the table.

For us to start looking at the downside potential, GBP/JPY would have to break the previously mentioned tentative upside support line and drop below the 145.45 level. This way, the pair could slide further towards the 144.90 barrier. Below lies the next potential area of support that we should keep an eye on, which is the 144.35 hurdle. That zone acted as strong support on the 19th and 29th of June.

Aussie Slides After Australia’s inflation Data

Overnight, the main release for Aussie traders was the Australian CPIs for Q2. The headline CPI rate rose to +2.1% yoy from +1.9% in Q1, entering the RBA’s 2-3% target band, but missing expectations of an increase to +2.2%. The trimmed mean rate remained unchanged at +1.9% yoy.

The initial reaction in the Aussie was actually positive (25 pips up), perhaps due to the fact that headline inflation entered the target range and also exceeded by a tick the Bank’s projection of 2%. However, the trimmed mean rate remained just a tick below the forecast for underlying inflation, which was also at 2%.

Aussie traders may have reexamined the results and pushed the currency south in the following minutes, as the numbers are far from suggesting a change in RBA’s thinking around policy. As we noted yesterday, its latest meetings were proven non-events, with the Bank keeping rates unchanged and proceeding with little changes to the accompanying statements. According to the Bank’s latest quarterly Statement on Monetary policy, the cash rate is expected to increase around the middle of next year. Remember that yesterday we said we would like to see underlying inflation pressures picking up as well before we start examining the chances for that timing to come forth.

In our view, AUD/USD is likely to continue drifting lower. On the one hand, the RBA is anticipated to remain on hold for the months to come, while on the other hand, the Fed is expected to continue raising rates, despite President Trump’s latest criticism over higher interest rates in the US. On top of that, uncertainty over the US-China trade dispute is likely to keep some extra pressure on the Australian currency given that Australia’s economy is heavily dependent on exports to China.

AUD/USD – Technical Outlook

AUD/USD continues to trade sideways, stuck within a range between the 0.7320 and 0.7445 levels. It has been sitting there since the 22nd of June. Overall, the pair is below the prior long-term upwards moving trendline taken from the low of the 15th of January 2016, and also below its medium-term downside trendline drawn from the peak of 16th of February this year. From the longer-term perspective, the pair is looking weak and there could be a chance for it to continue moving lower. But in the shorter-term outlook, AUD/USD could easily travel back up towards that downside trendline for a quick test. That said, we will remain neutral until wee see a break through one of the sides of the aforementioned range, before we get comfortable with either of the directions, at least in the near term.

For us to get comfortable with the downside scenario, we would need to see a break and a close below the lower side of the range, which is at the 0.7320 hurdle. This is where we could start examining lower levels, like the 0.7245 barrier, marked by the inside swing peak of the 30th of December 2016. If that level is not enough to withhold the rate, then a further drop could lead to a test of the 0.7185 zone. Slightly below lies a key area of support at 0.7160, defined by the lowest point in December 2016.

On the other hand, a break through the upper bound of the range, which is at the 0.7445 level, could interest the bulls in giving it a push towards the next potential area of resistance at around 0.7485, marked by the highs of the 9th and the 10th of July. If that zone does not prove strong enough to prevent the rate from rising further, then we could see the pair making its way to the abovementioned downside trendline for a quick test. This is where the bulls could be met with resistance from the bears.

As for Today’s Events

US President Donald Trump and European Commission President Jean-Claude Juncker will meet to discuss the US-EU trade relationship. Via his twitter account, President Trump said that both the US and the EU should drop all tariffs, barriers and subsidies. “That would finally be called Free Market and Fair Trade!”, he added. If the talks bear fruit, this could be positive for the broader market sentiment, with riskier assets, coming under buying interest and safe-havens staying on the back foot. On the other hand, any conflicts could potentially have the opposite effects. Investors may abandon equities and high yielding currencies and seek shelter in safe havens, like the yen.

As for the economic indicators, during the European morning, the German Ifo survey for July is coming out. Both the current conditions and expectations indices are expected to have slid somewhat, something that will drive the business climate index down to 101.5 from 101.5. That said, having in mind that the corresponding ZEW indices declined well more than anticipated, we see the case for the Ifo prints to fall short of expectations as well.

In the US, new home sales for June are coming out and expectations are for a 2.8% slide after a 6.7% increase in May.

As for the energy market, we get the weekly Energy Information Administration’s (EIA) crude oil inventories. Expectations are for a slide of 3.2mn barrels after a 5.9mn increase the previous week.

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