Pound Rally Fails on Dovish BoE Inflation Report

The U.S. Dollar is trading lower against mostcurrencies this morning with the exception of the British Pound.

The U.S. Dollar is trading loweragainst most currencies this morning with the exception of the British Pound.Earlier in the week it was reported that U.K. inflation came out on targetat 4.0% but two times the 2.0% mandate. The hawkish response by Bank of EnglandGovernor Mervyn King in his letter to the Chancellor suggested that speculatorsmay have been right in forecasting a rate hike in May, but this morning’s BoEInflation Report suggests the call for a change in trader assessment.

This morning the Bank of Englandinflation forecast that there is a broadly equal chance of CPI being eitherabove or below the 2% target in 2 years, if the rates follow the market path.One issue that is developing is that there is a wide range of views by themembers of the MPC over the outlook for inflation and growth. Based on thecurrent debate, prospects for both key economic factors remain highlyuncertain.

The forecast for near-term CPI is 4to 5 percent by mid-2011 before falling back. Even if inflation pulls back inthe short-run, there is expected to be a bias to the upside.

Another concern that was addressedis GDP. Based on the BoE assessment, GDP appears to be a coin-toss with growthlikely to be above or below historical average despite the existence of sparecapacity. Near-term GDP is expected to show growth, helped by expansionarypolicy and global demand. Q4 GDP suffered due to snow-impacted conditions.There is not expected to be runaway growth, however, as fiscal tightening, asqueeze on households from commodity and suppressed wage growth are likely tocurtail rampant growth.

Overnight British Pound investorsrejected the currency after it tested a key retracement zone at 1.6120 to1.6157. This zone was the 50%/.618 target created by the 1.5962 to 1.6278range. Downside momentum is strong this morning but the market seems to beattached to an uptrending Gann angle at 1.6065. A rejection of this angle willmean further downside action. The main trend is up but will turn down on atrade through the last swing bottom at 1.5962.

Traders are selling the Sterling in reaction tothe dovish tone of the BoE Inflation Report. The central bank’s projection thatinterest rates would rise at a more gradual pace in 2011 is the major concernamongst investors who felt the BoE would take a more aggressive stance becauseof soaring inflation.

The BoE is forecasting market ratesat 0.8% in Q3 2011, 1.0% in Q4 and 2.1% by Q4 2012. Traders had priced in a Mayrate hike that now looks pretty remote compared to the central bank’s forecast.

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