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GBP/USD volatility soars as USD short squeeze fuels correction

The pound continues to trade in a choppy fashion as fragile risk sentiment puts a lid on the currency.

Volatility is rife for the pound, which in turn has seen the currency trade in a choppy fashion.

The rise in virus cases and subsequent lockdown measures have added to the pound’s woes, not to mention that political uncertainty has been heightened by the ongoing UK-EU trade talks. That said, while idiosyncratic factors have been a key driver for a weaker GBP/USD, there has also been an element of a short squeeze in the US dollar amid the pullback in risk appetite.

Figure 1. Multi year high USD short interest fuels correction

GBP rallies capped until tangible progress is made on Brexit

Despite the recent push back from the Bank of England (BoE) Governor on negative interest rates, GBP/USD struggled to sustain upside, suggesting that the pair remains vulnerable to further losses until tangible progress is made between the UK and European Union (EU) in reaching a Brexit agreement.

That said, with little positives going for the pound as of yet, rallies risk being capped, therefore putting support at $1.2690-$1.2700 into focus, where a break below raises the risk of a 1.26 test. On the topside, initial resistance is seen at $1.2790-$1.2800 and $1.2850.

Figure 2. GBP/USD price chart: daily time frame

IG client sentiment warns of reversal lower

IG client sentiment data shows 48.16% of traders are net long with the ratio of traders short to long at 1.08 to 1.00. The number of traders net long is 15.74% higher than yesterday and 0.45% higher from last week, while the number of traders net short is 2.69% lower than yesterday and 7.94% lower from last week.

We typically take a contrarian view to crowd sentiment, and the fact traders are net short suggests GBP/USD prices may continue to rise. Yet traders are less net short than yesterday and compared with last week. Recent changes in sentiment warn that the current GBP/USD price trend may soon reverse lower despite the fact traders remain net short.

This information has been prepared by IG, a trading name of IG US LLC. This material does not contain a record of our trading prices, or an offer of, or solicitation for, a transaction in any financial instrument. You should not treat any opinion expressed in this material as a specific inducement to make any investment or follow any strategy, but only as an expression of opinion. This material does not consider your investment objectives, financial situation or needs and is not intended as recommendations appropriate for you. No representation or warranty is given as to the accuracy or completeness of the above information. IG accepts no responsibility for any use that may be made of these comments and for any consequences that result. Any research provided should be considered as promotional and was prepared in accordance with CFTC 1.71 and designed to promote the independence of investment research. See our Summary Conflicts Policy, available on our website.

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