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GBP/USD: May high in sight as wage growth hits 4-year high

The pound has surged higher on the back of some really good earnings news from the UK which has raised expectations for an earlier-than-expected Bank of England rate hike. Although the unemployment rate remained unchanged at 5.5% in the three months to April and the number of people claiming unemployment-related benefits fell only and by a less-than-forecast 6,500 in May, these numbers were overshadowed by news that wages rose at their strongest pace since August 2011. The ONS said that average weekly wages, which excludes bonuses, increased by 2.7% in the three months to April. This was significantly better than an upwardly revised 2.3% (initially reported as 1.9%) increase in the preceding 3-month period and far better than 2.5% expected. The numbers look even better when inflation is taken into account. That’s because the UK actually fell into a deflation in April when the Consumer Price Index contracted 0.1%, though this only lasted for one month as the CPI rebounded to 0.1% in the year to May. So, the real wage growth in April was effectively 2.8%.  Now, the Bank of England has been waiting very patiently for wage growth to pick up momentum before entertaining the idea of raising interest rates. Today’s numbers will certainly make the MPC think harder about interest rates because acting too late may be more costly as inflation could overshoot the target. In fact, the minutes from the BoE’s last meeting, also released this morning, has already revealed a slightly hawkish message. The MPC has said that the factors lowering inflation may dissipate "fairly shortly" and that pay growth is picking up. What’s more, two policy members even suggested their decision on rates is "finely balanced" which suggests that they could quickly turn hawkish on further improvement in UK data. Speculators should pay close attention to remarks from BoE Governor Mark Carney who is due to speak at the International Organization of Securities Commissions 40th Annual Conference, in London, at 18:45 BST this evening.

Meanwhile across the pond, all eyes will be on the Federal Reserve tonight with the policy statement and economic projections due at 19:00 BST and the corresponding press conference from Chair Janet Yellen taking place half an hour later.  Virtually no one expects a rate hike at this meeting, but the Fed may provide hints as to whether it will hike rates in September. Our full FOMC preview, which was written by my colleague Matt Weller, can be found HERE.

The GBP/USD is now up for an eight consecutive day. Although the rally is beginning to look a little bit stretched, we think that there is enough juice left to cause a breakout above the May high of 1.5815 – a caveat here being that this outlook could change dramatically if the FOMC delivers a very hawkish statement tonight. Should price break above the May high and hold above it for some time, it would thus create a second “higher high.” It would basically confirm that the long-term downward trend has ended. As a result, we may see some further follow-up technical buying. The bulls may then aim for the 1.6185-1.6215 area as their next big target. Here, the 61.8% Fibonacci retracement level of the downswing from July 2014 high meets the 161.8% extension of the last notable downswing from the May 2015 high. Given the convergences of these important Fibonacci levels, it is then likely that we may see a potential drop from there as the longs take profit. But to get to the 1.6185-1.6215 area, price will first have to rally another 445-475 pips from here, which is a tall order but by no means unachievable given the improving fundamental outlook for the pound. A couple of other resistance levels will also need to be taken out, such as the May high at 1.5815 and the 50% retracement of the long-term downswing around 1.5875/80.

So, as things stand, the Cable looks very strong. But as mentioned, it could easily snap if the FOMC surprises with a hawkish message tonight. Even so, the pound would still probably fare better than some of the weaker currencies against the US dollar. Speculators could still take advantage of the pound’s strength against a weaker currency – such as the NZD. But as far as the GBP/USD is concerned, a potential turning point could be the breakdown of short-term support at 1.5700. In this event a move down back to the point of origin of today’s breakout at 1.5650 could get underway. And if 1.5650 breaks then the prior supports at 1.5550 and potentially even 1.5440 could be exposed for retests.

Figure 1:

Source: FOREX.com


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