GBP/USD Forecast: The longer the Brexit extension, the higher the pound potential

  • GBP/USD experienced extreme volatility amid drama and anarchy around Brexit.
  • A Brexit extension, its length, and other Brexit events usually overshadow important UK events.
  • The technical picture is bullish for the pair, but a lot depends on Brexit.

This was the week: Brexit Anarchy in the UK 

Events are unfolding quickly as Brexit Day nears. At the time of writing, the UK and the EU are set to agree on an extension of Article 50, delaying Brexit. This bottom line has pushed the pound higher, but a closer look at the charts shows the extreme volatility and reflects the rapid clip of news. Additional events may occur soon after this outlook is published.

The week began with UK PM May securing concessions on the Irish Backstop issue at a late night meeting in Strasbourg, France. On Tuesday, Attorney General Geoffrey Cox released his legal advice and ended the chances of an approval. He stated that while the changes to the deal are "material," the risk that the UK remains in the Customs Union indefinitely have not changed. The pound dropped sharply. 

Late on Tuesday, the deal failed again. The narrower margin of MPs rejecting the accord, 149 against 240 in January, was of no comfort to the government. Sterling extended its slide.

PM Theresa May, on the verge of losing her voice, was also defeated on Wednesday. MPs voted in favor of an amendment to simplify the rejection of a no-deal Brexit, contrary to the government's wishes. The news sent the pound soaring.

As MPs prepared for the last vote on Tuesday, speculation about a third Meaningful Vote on May's deal mounted. Also, the EU is reportedly offering a long Brexit extension of more than two to three months so that the UK can get its house in order. Cable moved higher but then wobbled on the growing uncertainty. 

The EU may still block an extension, but Brexit may even be canceled altogether. The high level of uncertainty is set to extend into the new week.

The next Brexit events, possible scenarios

At the time of writing, the EU leaders convene on Thursday, March 21st to decide on an extension. They are expected to approve it, but want to know why and for how long. The length of the delay is in their hands, and reportedly, they have not thought it through.

Ahead of Thursday, the British government may ask Parliament to vote on the Brexit deal for the third time. Fears that Brexit will slip away has already convinced some MPs to vote in favor in the second MV. It will be hard to convince many more of them to do so.

A lot depends on the DUP party, on which May's Conservatives rely on. If they move to back the deal, many Brexiteers may be convinced. If Parliament finally approves the deal, the EU will opt for a temporary extension, just enough for the UK to pass all the related rules and to secure a smooth transition. The UK will be out before the new European Parliament convenes on July 2nd.

Such an outcome will be pound positive, as it removes uncertainty, but huge moves are unlikely. 

However, Remain supporters within May's Tories are not sitting on their hands. They may rebel and push for a long extension and even for a second referendum. A long extension is set to send the pound considerably higher. 

Given the fractures in the ruling party, May may decide to call quits. The voices in favor of her ousting are growing, and there is a chance that a few rebel MPs will join the Labour opposition party in favor of a no-confidence motion. The uncertainty and the potential rise of a pro-Brexit MP such as Dominic Raab as PM may send the pound plunging. 

An ousting of May or another chaotic scenario could result in a no-deal Brexit on March 29th. This is certainly not priced in by markets at this point, and the pound may crash with the UK economy.

There are additional options, but to sum it up: the longer the extension, the better it is for the pound. 

Other UK events: BOE, inflation, jobs

If it weren't for Brexit, the jobs report, inflation data, retail sales, and the Bank of England decision would have had a material and long-lasting impact. 

But these are not normal times. 

All the events are set to have a limited and short-lived impact.

Tuesday's jobs report is et to show that Average Earnings continue rising at a pace above 3% in January, encouragingly significantly above inflation. The unemployment rate, standing at 4% as of December, is also good news. The more recent Claimant Count Change has been on the rise and causes some worries. Another increase is on the cards for the report for February.

Inflation is the top-tier figure for Wednesday. Falling energy prices have pushed headline inflation lower, with 1.8% as of January. Core CPI stood at 1.9%, a similar rate. No significant changes are due in the upcoming report. The BOE's target is 2%.

Retail sales are released on Thursday just before the BOE decision. The BOE would be glad to raise interest rates given rising wages, the healthy inflation rate, and cheap credit. However, Brexit uncertainty has paralyzed policy. The Monetary Policy Committee is set to vote unanimously in favor of no changes.

As the vote comes late in the week, after several additional Brexit developments, there is a low chance that the meeting minutes will reflect the Bank's potential reaction to these developments. For example, if a hard-Brexit is getting closer, they may indicate they are ready to cut rates. However, the most likely outcome is a silent central bank decision, with the next one being much more significant. 

Here are the events lined up in the UK on the forex calendar:

UK events March 18 22 2019

US events: All about the Fed

The rate decision by the Federal Reserve overtowers all other events on the US calendar. The Fed is set to leave rates unchanged after pledging patience in the previous meeting back in January. The focus will be on the dot-plot. The market will want to see if the central bank now sees only one rate hike this year or perhaps none. They are unlikely to leave the projection at two increases as they signaled back in December 2018.

In addition, markets will be watching for any details regarding the balance sheet reduction program. The Fed intends to end it sooner than expected, perhaps by year-end. Fed Chair Jerome Powell may provide further details. The FOMC statement and the new interest rate, growth, employment, and inflation forecasts are due on Wednesday at 18:00 GMT. Powell will meet the press at 18:30 GMT.

See Fed Preview: Three scenarios for the crucial dot-plot and three other things to watch

It is important to note that while the Fed may move most markets, the timing, just before the EU Summit and perhaps at the same time as the third Meaningful Vote, means that GBP/USD will ignore the event. 

Here are the scheduled events in the US:

US macro economic events March 18 22 2019

GBP/USD Technical Analysis - Bullish

Examing the long-term daily chart, GBP/USD is trading in a very broad channel and nearing the top of it. At the time of writing, uptrend resistance is at around 1.3420. 

Momentum is to the upside and the Relative Strength Index (RSI) is rising, but not reflecting overbought territory. Also, the 50-day Simple Moving Average has recently crossed the 200-day one, a positive sign as well.

1.3300 is a round number, and it also capped the pair in September. 1.3350 was a temporary peak in recent days, and 1.3385 was the high point on Wednesday. Above the 1.3420 mentioned earlier, the June 2018 peak around 1.3480 is the next line to watch. Further up, 1.3625 was a high point in May 2018, and 1.37 is next.

1.3250 supported the pair when it was on the high ground late February. 1.3175 capped in early March and it if followed by several lines that are best seen in the intraday charts: 1.3150, 1.3110, 1.3060, and most importantly, 1.2960, a double-bottom. Lower, 1.2900 and 1.2830 await cable.

It is important to note that in the event of a no-deal Brexit, the lines to the downside may all collapse rapidly. And in the event of a second referendum, resistance may evaporate quite quickly as well. 

GBP USD technical analysis March 18 22 2019

GBP/USD Sentiment

Remain supporters in the government are rebelling, joining most of the opposition. There is a good chance that the UK asks and is granted a long extension, opening the door for a second referendum. Amid the extreme uncertainty, there is a higher chance that the pound will go high than go low. Only one thing is certain: volatility is set to remain sky high.

The FXStreet Poll offers a mixture of hopes and disbelief as, in the three-month perspective, the range of possible targets goes from 1.15 to 1.40, the result of market players being clueless about how Brexit will end if it ends some day. The short-term sentiment is bullish, with  50% of the polled experts going long, and leading to a bullish extension in the Overview chart to fresh highs. In the monthly analysis, the moving average is also heading north but losing momentum, as most targets come below the current level, extending down to 1.2000, reflecting concerns about a possible escalation in the Brexit chaos. Bulls re-take the lead in the quarterly perspective, but definitions are still not here.

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