EURGBP: Euro Getting Pound-ed by Rival

Even with the benefit of a full night’s rest, traders are still struggling to digest the Fed’s latest missive (see “Fed Instant Reaction Reaction: ‘Considerable’ Confusion” for more). Indeed, the only clear takeaway is that the central bank’s action will, as ever, be entirely dependent on incoming economic data. For equity traders, that was clearly enough, as US equities saw their best day of the year yesterday and are pointing to another strong open in today’s trade.

Rather than trying to decipher the Fed’s tea leaves and how they’ll impact the US dollar, traders may be better served by avoiding the greenback altogether and focusing on a pair like EURGBP. The European cross is selling off today on the back of a strong retail sales report from the UK, with the measure of consumer activity rising at 1.6% pace m/m, crushing expectations of just a 0.3% rise. In combination with the positive revision to the previous month’s report, traders have a clear reason for optimism about the UK economy, which had recently been hit by a string of negative economic reports.

EURGBP was particularly vulnerable to a bout of weakness after forming a clear Evening Star* formation earlier this week. This relatively rare 3-candle reversal pattern shows a gradual shift from buying to selling pressure and is often seen at near-term tops in the market. The combination of the bearish fundamental news and the strong technical resistance has led to a sharp drop, and rates are now approaching the bottom of the recent symmetrical triangle pattern in the mid-.7800s.

While there certainly is reason to expect that area to provide support, the secondary indicators argue that caution is warranted. Both the MACD and RSI are edging below their corresponding bullish trend lines, perhaps providing a leading indicator of a breakdown in the exchange rate itself.

With any technical pattern, price is the most important factor, so more conservative traders may want to wait for a confirmed breakdown below .7830 before shorting EURGBP. If we do see rates drop through that floor, a continuation down to key support at the six-year low around .7760 is possible by New Year’s Day. Conversely, a bounce from the bottom of the triangle pattern would point to more consolidation around .7900 for the next couple of weeks.

* An Evening Star candle formation is relatively rare candlestick formation created by a long green candle, followed a small-bodied candle near the top of the first candle, and completed by a long-bodied red candle. It represents a transition from bullish to bearish momentum and foreshadows more weakness to come.