By Francis Bray, CFTe MSTA
LONDON (Dow Jones)--Strength in the Bank of England's sterling effective exchange rate index should be enjoyed while it lasts, as the current bounce is likely to bring only temporary relief from a significant bear trend, and longer-term bears are plotting the course for a return to the 2009 low at 73.4.
The index measures the value of sterling against a basket of the currencies of the U.K.'s main trading partners.
Recent strength off the Mar. 10 low at 76.4 was prompted by an inverse head-and-shoulders pattern on the daily chart.
The reversal pattern's minimum upside target at 78.0 has been reached, and there is scope for the correction to extend to the 50% retracement level of the 82.1/76.4 decline, at 79.2.
However, the dominant bear trend in the index can be seen on the weekly chart below.
http://www.dowjoneswebservices.com/chart/view/3667
Once a corrective peak has been formed beneath 79.2, longer-term bears will step in to renew pressure on the 76.4 reaction low.
A break below there would create a sub-divided third wave decline in Elliott Wave terms, and these sub-divisions tend to be very powerful and destructive.
Minor support at 74.2 is unlikely to provide much of a barrier, and the initial downside objective will be to test the 2009 low at 73.4, set in January.
Yet support here is unlikely to create much of a dam against a tidal wave that has its sights set on the psychological 70.0 level, and the 1.618 Fibonacci extension target at 69.3, projected off the Jan. 25 lower high at 82.1.
To question the bearish outlook, a sustained break above 79.2 is required to deepen the retracement of the 82.1/76.4 decline to 61.8%, at 79.9.
This would reduce the destructiveness of the pending bear wave, by strengthening support at 74.2 and giving the 73.4 low a chance of attracting more significant support.
The sterling effective exchange rate index stood at 77.6 at 1045 GMT.
(Francis Bray is Dow Jones' chief technical analyst for Europe, and has worked as a technical analyst and trader for 20 years in London, Barcelona and Guernsey.