GBP/USD Set For Countertrend Bounce

The GBP/USD broke to a new low for the year on Tuesday before reversing sharply to close in positive territory after disappointing US data revived recession worries at the world’s largest economy.

With investors now looking forward to the Jackson Hole Symposium and Fed Chairman Jerome Powell’s speech on Friday, we could well see a bit of a countertrend move in the cable and indeed a couple of other dollar pairs, as well as metals, after their extensive falls.

The GBP/USD created a bullish engulfing candle on its daily chart on Tuesday after an earlier decline below the lows of the prior day (1.1741) and mid-July (1.1759) failed to hold. The engulfing candle is a possible reversal signal in the cable, although the lack of immediate upside follow-through suggests that for now investors are not very confident that a long-term low has been reached.

Indeed, that’s how I would interpret Tuesday’s price action, namely that the cable has merely created a short-term low, although there is the potential that it could turn into something more significant in the future. 

Several other technical factors suggest that the GBP/USD is due for a bounce anyway. For a start, the distance between the current price and the long-term 200-day moving average is reaching a huge 10%, which was last this wide during the height of the pandemic in the first half of 2022. It is very common for price to revert to the mean after extensive one-directional declines.

In addition, momentum indicators such as the Relative Strength Index (RSI) are at or near 'oversold' levels. Speaking of the RSI, there’s a positive divergence on this indicator in that it has created a higher low compared to its previous low in July (when it also preceded a bounce in the cable), while the GBP/USD itself has formed a lower low.

Taking everything into account, I reckon there’s a good chance we will see the cable revisit the 1.20 handle from here, a psychosocially-important level which was also previous support. Thus, it is reasonable to expect some sort of a reaction, should we get there.

Beyond 1.2000, the next potential resistance comes in around 1.2200. The longer-term outlook would turn positive in the event we see a break above the most recent high at 1.2295, but we will cross that bridge if and when we get there.  

From a macro point of view, it is all about whether the market’s hawkish expectations are going to change with the release of disappointing US data and Fed speeches. The disappointing PMI numbers, Richmond Manufacturing Index and new home sales data on Tuesday were the latest macro pointers to suggest economic activity is slowing down more sharply than expected. So far however markets are clinging on to their hawkish expectations. But for the reasons stated above, the dollar is vulnerable to some profit taking ahead of Jackson Hole, especially if today’s only piece of US data—durable goods orders for July—also disappoints. 

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Disclaimer: The author currently does not own any of the instruments mentioned in this article.