Is the British Pound Set Up for a Short Term Correction?

The December British Pound is trading slightly better this morning after the Bank of England minutes said its members voted unanimously at its last monetary policy meeting to expand the size of its asset-purchase program.

The current strength puts the market close to where it finished on Friday, making it a sideways week. This shouldn’t be ignored since it usually indicates impending volatility. On Tuesday, the Sterling appeared to be poised to correct back to a retracement zone at 1.5511 to 1.5432 after the British government said annual consumer price inflation accelerated in September at the fastest rate in three years, but the late session news out of the Euro Zone regarding the size of the bailout proposal helped turn it around.

One key issue at this time is theU.K.inflation forecast. Yesterday’s report put annual price inflation well above the Bank of England‘s 2% target, but the central bank’s Monetary Policy Committee earlier in the month said it expects inflation will fall back sharply in coming months. With new money hitting the economy in the form of quantitative easing, the BoE has to be concerned about the high inflation rate. It seems to me that it would be counter-productive to inject money into the economy then be forced to raise interest rates to take it back out.

This assessment appears to be reflected in charts with the market hovering slightly below a major 50% price level at 1.5883. This is based on the break from 1.6586 to 1.5179. In addition, a major Gann angle at 1.5746 is also causing some of the indecision. This morning the market is starting to breakout above the Gann angle, giving it some strength, but with the 50% level just above this price, one can conclude that traders are shying away from buying at this lofty level.

The recent rally from the low at 1.5179 to the high at 1.5842 has been impressive, but it may have been short-covering. What the British Pound needs to do is correct at least 50% of this range to make it more attractive to buyers. Should buying interest increase after a pull-back to 1.5511 to 1.5432 then this would be a strong sign that a solid bottom has been formed.

In summary, traders may be asked to buy strength if the market begins to breakout to the upside. In doing so they run the risk of getting caught in a bull-trap. A pull-back into 1.5511 to 1.5432 will be the best scenario, but this requires patience to set-up.