The significance of the GBPUSD drop is USD/JPY, EUR/JPY and GBP/JPY followed lower. Prior to the GBP/USD drop, GBP/JPY correlated to GBP/USD 90% while EUR/JPY correlated to USD/JPY 90%. If ever a mix match occurred and a warning of impending explosive moves, its found in the JPY cross pairs. And again if I may allow myself, I wrote last week the big giant 1000 pip move was upon us.
For GBP/USD in the mix match, it was most important because the association GBP/USD shared with its counterpart pairs was a hodgepodge. GBP/USD lacked positive association to GBP/CAD, the Carney Cross, for example. Well, GBP/CAD and GBP/USD are the exact same pairs yet lacked association. GBP/USD suffered the correlational association for at least the past year and its why the recommendation was stay away from GBP in favor of EUR pairs if and until GBP corrects itself.
To excuse grammatical first person accounts, January 2015, I wrote about the impending currency market realignment. I saw it coming then at EUR/JPY 132 and was early in this assessment. Without absolute factual data to back my assessment but based on a 25 page academic paper where I viewed the USD/JPY, EUR/JPY and EUR/USD periodic relationships from 2000 to 2014, my contention is the USD/JPY drop along with EUR/JPY and GBP/JPY could very well signal an FX market Tealignment is finally here.
The exact same situation occurred in 2008 as USD/JPY, GBP/JPY, EUR/JPY, GBP/USD, EUR/USD all droppped significantly.
Currency market Realignments are seen on average since the 1971 free float every 10 years and a rare rare event in currency markets. Its a market shift, a wholesale structural change.
Prior to 2008, EUR/JPY and EUR/USD were the same pair. GBP/JPY and GBP/USD were the same pair. The crash forced a realignment as EUR/JPY and GBP/JPY shifted its alliance to USD/JPY which means overall currency markets shifted and Realigned from risk on mode to risk off. A relationship of this magnitude generally last 10 years.
A currency market Realignment, a noun, is a shift of cross pairs and a shift of allegiance. Note cross pair arrangements are aligned as one risk on and one risk off pair. Correlational association to major USD pairs informs the type of market traded. Since 2008, markets traded in risk off mode yet a Realignment forces the change from Risk off to Risk on as GBP/JPY and EUR/JPY will again shift its loyalty back to EUR/USD and GBP/USD. A development of this magnitude is extraordinarily positive for volatility and back to normal functioning markets as cross pairs align to their natural home base.
Positive volatility means EUR/USD, EUR/JPY and GBP/USD, GBP/JPY associations when positively Correlated offers natural mathematical parameters much wider in risk on than risk off mode. Its a design structure by central banks when cross pairs were introduced to counterpart USD pairs to protect not only currency pairs but currency markets, nations associated to cross pairs, business interests and a natural ability to never allow prices to crash to zero.
The opposite effect occurrs in risk off mode as mathematical parameters shrink. To reiterate, EUR/JPY positively correlates to USD/JPY limits volatility because mathematical parameters shrink while EUR/JPY correlated to EUR/USD offers wider mathematical parameters and normal functioning markets. The shrinkage of parameters as USD/JPY correlation to EUR/JPY imparts unhealthy, risk off markets due to parameter and volatility shrinkage. A far different price exists for example when USD/JPY correlates to EUR/JPY than when EUR/USD Correlates to EUR/JPY. The same holds true for GBP/USD and GBP/JPY.
Most important point in Realignments is its never seen in major USD currency pairs but rather its only seen in cross pairs because its a complete market structural and price change. Ask what drives currency prices, cross pairs or USD counterparts. More cross pairs exist so cross pair assessments must completely re factor.
EUR/JPY dropped 1200 pips while GBP/JPY dropped 2200. It takes about 1500 pips to completely change a currency market Realignment so I am convinced a historic yet positive development is upon us. Why big drops is because all cross pairs associated to counterparts must also Realign. The best view is found in JPY cross pairs but a shift in one cross pair must see an allegiance switch in all cross pairs. The other best pair to view Realignments is traditional risk off CAD/ZAR but because its not a well known currency pair and not widely tradd, JPY crosses can easily determine Realignments. What is Realignment is the significant break point associated to allow a Realignment to occur. Cross pairs again re associate to their natural home base.
What we are experiencing is first terrific volatility ahead for easily the next year because prices must now Realign as well as other slower moving cross pairs like AUD/CAD, AUD/CHF, NZD/CAD and many others.