GBP/JPY – Time for a correction?

Is too much priced in for the pound?

The pound has made some incredible moves against the yen in recent weeks, following the breakout from long term consolidation through the top of the descending triangle , after which it surged to more than five-year highs.

The rally in the pound has been driven by rapidly shifting interest rate expectations, with markets now pricing in four or five rate hikes by the end of next year in order to combat very high inflation , which is expected to peak above 5% and average 4% over the next 12 months.

Naturally, when compared to the yen where interest rates have been rock bottom for so many years and the prospect of that changing looks slim, it’s easy to see why the moves in this pair have been particularly powerful.

But the pair now finds itself in an interesting position. So much is now priced in for the Bank of England, arguably too much, that should it follow that path, traders appear to be of the view they’d be committing a policy mistake which they’ll be forced to reverse.

So barring another unexpected spike in inflation , or a sudden burst of economic activity that looks unlikely given the squeeze we’re seeing from various sides, what exactly is going to deliver those further sterling gains?

That’s not to say it isn’t possible, particularly against the yen, but the opposite may be more likely after such an extraordinary run if we do see expectations pared back a little, even some profit-taking on those earlier moves.

The 4-hour chart may give an idea of what’s to come. The consolidation pattern we’re currently seeing isn’t perfect. There appears to be support around 156 but it’s not completely clear. Alternatively, it could be trading in a descending channel , a sign of consolidation.

A significant break of 156 may indicate a broader correction, while a break of the channel would suggest it’s quite a strong move. A move above the channel would suggest the pound has new life and sight set on those recent highs.

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