GBP/USD climbs to over two-week top, beyond mid-1.2100s amid sustained USD selling

• GBP/USD gains traction for the second straight day and climbs to over a two-week high.
• A combination of factors keeps the USD bulls on the defensive and remains supportive.
• Looming recession risks could cap the optimism and lend support to the safe-haven buck.

The GBP/USD pair builds on Friday's solid recovery from a six-week low and gains strong follow-through traction for the second successive day. The momentum lifts spot prices to a two-and-half-week high, around the 1.2170 area during the first half of the European session and is sponsored by the prevalent US Dollar selling bias.

In fact, the USD Index, which tracks the Greenback against a basket of six currencies, hangs near the monthly low and is pressured by a combination of factors. Friday's mixed US monthly jobs report (NFP) and the disappointing release of the US ISM Services PMI fueled speculations that the Fed will soften its hawkish stance. In fact, the markets are now pricing in a 25 bps Fed rate hike move in February, which leads to a further decline in the US Treasury bond yields. Apart from this, a positive risk tone further dents the Greenback's relative safe-haven status and offers additional support to the GBP/USD pair.

China's pivot away from its strict zero-COVID policy and opening of its borders over the weekend, for the first time in three years, has boosted investors' appetite for riskier assets, which is evident from the upbeat mood around the equity markets, and this offers mild support to the pair. Investors, however, remain concerned that the massive flow of Chinese travellers may cause another surge in COVID infections. Apart from this, the protracted Russia-Ukraine war has been fueling worries about a deeper global economic downturn, which should cap any optimism in the markets. This could lend some support to the buck and cap gains for the GBP/USD pair.

From a technical perspective the break above the December 28 highs at 1.2125, the last key lower high in the corrective move down from the December 14 peak, marks an important turning point as it could suggest a reversal higher and that Cable's three-week yuletide correction is at an end. It probably means the medium-term uptrend which started in September has restarted and prices will now continue rising. That prices failed to break below the major 50 and 200-day Simple Moving Averages (SMA) touched last week is instructive as it further suggests the December decline was merely corrective. The speed of the rebound higher suggests a short-covering or short-squeeze may be in progress, where sellers are taken by surprise and rush to panic close their shorts as the market rises and they see their accounts rapidly turn red. A move up to 1.2200 is now probable, followed by 1.2310 if bulls push aggressively and data supports.

Traders, however, might prefer to move to the sidelines ahead of the release of the latest US consumer inflation figures on Thursday. The crucial US CPI could influence the US central bank's near-term policy outlook and provide a fresh directional impetus to the GBP/USD pair. In the meantime, the US bond yields, along with the broader risk sentiment, will drive the USD demand and provide some impetus to the major in the absence of any major market-moving economic releases on Monday.

Technical levels to watch