The Downside
Producer prices in the U.K. rose at the slowest pace in sixth-months, with the gauge falling back to an annualized rate of 4.7% in August from 5.0% in the previous month. Lower costs could lead businesses to keep a lid on prices, and a slower-than-expected pace of price growth could trigger a sell-off in the British Pound as interest rate expectations falter. As a result, a dismal inflation report could lead the GBP/USD to test range support around 1.5300, but a break below this level would expose the 100-Day SMA at 1.5131.
How To Trade This Event Risk
Forecasts for a slower inflation certainly favors a bearish outlook for the British Pound, but a higher-than-expected CPI reading could set the stage for a long Cable trade as investors weigh the prospects for future policy. As a result, if inflation expands at an annualized pace of 3.1% or greater, we will need to see a green, five-minute candle to generate a buy entry on two-lots of GBP/USD. Once these conditions are fulfilled, we will set the initial stop at the nearby swing low or a reasonable distance to the downside, and this risk will establish or first target. The second objective will be based on discretion, and we will move the stop on the second lot to breakeven once the first trade reaches its target in order to preserve our profits.
On the other hand, lower input prices paired with the ongoing weakness within the real economy could lead businesses to keep a lid on consumer prices in an effort to boost consumption. At the same time, a slower pace of inflation would allow the BoE to support the real economy going forward, and a dismal CPI report could stoke a sell-off in the sterling as interest rate expectations falter. Therefore, if the headline reading for price growth falls to an annualized 3.0% or lower, we will favor a bearish outlook for Cable. We will then look to implement the same setup for a short pound-dollar trade as the long position mentioned above, just in reverse.
