Chart Of The Day: GBP/USD Signaling Potential Upward Reversal

The UK's pound sterling is up about 0.3% Wednesday at time of writing, on dollar weakness. Today's rise trims Cable's 0.37% loss on Tuesday, the result of yesterday's USD strength.

During the previous three FX trading sessions—Friday through Tuesday—the pound was in decline, a mirror image of the dollar's simultaneous advance.

The GBP/USD pair's price has been dominated more by the state of the US economy rather than that of the UK. It has surprised us that the dollar has weakened since the Fed tilted more hawkish.

When the central bank starts on a path to reducing the available dollar supply and increasing interest rates, it's a no-brainer that demand for the greenback will accelerate. Of course, the opposite has been happening since the Fed surprised markets on Dec. 15 after revealing there were no longer any dovish policymakers left. After an intraday bump of 0.35% post-FOMC meeting, the dollar closed 0.06% lower on the day, the start of a slide that reached as much as 2% as of Friday. As well, since that mid-December day, the Dollar Index is still more than 1% lower.

Sterling experienced the opposite reaction. After dropping 0.5% during the session on Dec. 15, sterling closed 0.19% higher. The UK currency has gained as much as 3.87% since then until Thursday, but is still +3.05% since the Fed's surprising turn.

On the economic front, the British economy grew past pre-pandemic levels in November. The country's GDP expanded by 7% YoY, but that doesn't take into account the recent impact of Omicron, which is expected to disrupt that recovery.

What does that mean relative to the US economy? Unfortunately, that's murky. While Moody's sees the US economy as being stronger than Omicron, rising prices because of previous lockdowns may change that outlook. Moreover, China's economy could surpass that of the US by 2030, and Goldman Sachs forecasts the euro area economy could overtake America's in as little as two years.

In other words, anything could happen. All a trader can do is try keep up with the rapidly changing environment. Here's how that translates into the GBP/USD supply and demand equation on the technical chart.

GBP/USD Daily

Cable remains in a peak-and-trough downtrend. However, the first sign of a potential reversal appeared when the currency pair broke to the topside of its falling channel.

The 200 DMA blocked the price from extending the advance to post a peak higher than that of late October. However, the price found support above the 100 DMA and the top of the broken falling channel, which could be resting stops for bulls before tracking above 1.3840, which would be another potential sign in favor of an upward reversal.

Trading Strategies

Conservative traders should wait for the price to extend the downtrend by posting a low below the Dec. 8 trough and short, or establishing an ascending series of peaks and troughs and join the market in trading higher.

Moderate traders would risk a long position if the price closes at these elevated levels and retests yesterday's lows for a close entry.

Aggressive traders could enter a long position according to a plan that addresses their timing, budget, and risk aversion. Here is a basic example:

Trade Sample - Aggressive Long Position

• Entry: 1.3630
• Stop-Loss: 1.3580
• Risk: 50 pips
• Target: 1.3830
• Reward: 200 pips
• Risk-Reward Ratio: 1:4