Sonia at current 0.21 remains massively oversold by 5 and 6 standard deviations and its location should be easily 20 basis points higher to targets at 0.40’s. Sonia’s bottom is located at 0.18 and ranges shortest terms from 0.18 to next break above at 0.2280. Longer term, Sonia is far outside its ranges from monthly averages 1 to 10 years. Only upon the 0.22 break does Sonia have ability to target 0.27 then the solid brick trend line walls from 0.33 to 0.38.
Despite Sonia’s historic lows since its 1997 inception, overnight Gilt Repos historic lows since 1996 inception and 3 month GBP T bills since 1975 and beyond, Carney’s drop in Sonia was a forced reactionary move to defend the exchange rate as a result of Brexit. Carney instituted a floor beneath the exchange rate to protect interest and exchange rates to fall to zero.
Both GBP and Sonia broke below 1 to 10 year monthly average upslope trend lines. Once GBP/USD broke 1.5500’s, supports below were non existent and theoretically both GBP and Sonia had every reason to fall to zero and beyond. The drop in interest rates however caused a severe Correlational misalignment between Sonia and GBP due to the distance both traveled from the Brexit fall.
While Sonia’s bottom is 0.18, GBP/USD’s known bottom is 1.2289. The drivers in the relationship shortest terms are the 1 and 2 year monthly averages at + 55%, +31% and longer term the 9 and 10 year averages at + 84% and + 90%. Monthly averages 3 to 8 years are either negative or barely positive and irrelevant for short term evaluations because those averages are still located at the upper pre Brexit trend lines however a time will exist in the future when those averages offer a more vital role to Sonia and GBP prices.
Pre Brexit, GBP/USD was far overvalued by itself and in relation to counterpart currency pairs. GBP/USD was stuck in dead ranges and lacked correlations to its complementary currency pairs. Post Brexit, GBP/USD correlates to all its major currency pairs to include GBP/NOK, GBP/SEK and most important GBP/EUR. What GBP/USD offered from Brexit was a healthy correction, a low price, wider ranges and now a price close to bottoms. Most importantly, trade opportunities and volatility in all GBP pairs will last for many months if not years in the future.
While 1.2289 is current bottom, most significant break points from monthly averages exist at 1.2605, 1.2849, 1.2929, 1.3242 and 1.3252. 1.3576 and 1.3636. While 1.5500’s was the multi year trend line break, GBP/USD runs into solid walls from 1.4100’s to 1.4500’s. Only above 1.4500’s does GBP have any shot to the trend line at 1.5500’s.
Intraday, big line breaks above from current price exist at 1.3422, 1.3482 and 1.3591. A break of 1.3591 targets next 1.3636 and 1.3690. A new uptrend then begins with ability for GBP/USD to travel to 1.3800’s to 1.4100’s before overbought conditions become concerns. The line above to inform if 1.3400’s break is the intraday dynamic line now at current 1.3330. This point will rise and fall over coming days and weeks and its the line to watch closely.
The current base is built upon 1.3016 and has been rising for weeks from 1.2400 – 1.2500 lows. To challenge the 1.3016 base and drive it lower then breaks must occur at the downtrend points at 1.3273 and 1.3165. Downtrend points can see GBP/USD travel to 1.2800’s to 1.2900’s before oversold conditions becomes a problem.
On the interest rate front, I view the Carney drop as a one and done scenario. Sonia like GBP is severely low, oversold and on the floor. The next move if any should be higher. Lower for Sonia lacks a serious argument due to massive oversold and because a base was built as is the same scenario for interest rates at the ECB, RBA and RBNZ. What will drive GBP is the economic data as the UK is now in a terrific position to rebuild economically into a robust economy. With the massive fall in GBP and lower Sonia, major fundamentals also drop so as to allow a rebuild from a lower base.
Brian Twomey, Inside the Currency Market, btwomey.com