GBP/USD Forecast: Sterling Defies UK Political Chaos as USD Flounders

• Starmer revolt deepens as more than 100 Labour MPs call for departure
• Sterling shrugs off UK political turmoil and surging gilt yields
• Hot US CPI still fails to generate sustained USD demand
• GBP/USD wedge structure warns sterling rally may be tiring

Summary

While UK political instability and rising gilt yields would ordinarily be expected to weigh on sterling, recent price action suggests broader USD sentiment and swings in global risk appetite remain the dominant drivers for now. That leaves the pound in the unusual position where deteriorating domestic political fundamentals are being offset by a market still reluctant to embrace the dollar even with higher crude prices and a more geopolitically tense backdrop.

Starmer turmoil meets fading dollar demand

Political turmoil following disastrous local government election results for the ruling Labour Party has intensified in Britain, with more than 100 Labour MPs now publicly calling for Prime Minister Keir Starmer to resign or outline a timetable for departure. While no formal leadership challenge has emerged yet, the scale of the revolt has raised concerns about another period of political and fiscal uncertainty at a time when UK borrowing costs are already elevated.

If Starmer survives with Rachel Reeves retaining her position as Exchequer, gilt yields may stabilise on expectations relative fiscal discipline broadly remains intact. But if he falls and Labour shifts towards a more progressive or left-leaning leadership direction, markets may demand an even larger fiscal risk premium.

Source: Tradingview

But perhaps the bigger story is what this says about USD sentiment. From an outsider’s perspective, seeing sterling continue to grind higher despite intensifying political turmoil in Britain and long-end gilt yields ripping higher really demonstrates just how out of favour the dollar remains with traders right now. Under more normal circumstances, that type of backdrop would likely be weighing heavily on the pound.

Rising energy costs cloud Fed outlook

Not even a hot US inflation report for April was enough to turn the dial meaningfully for the USD on Tuesday, with headline CPI rising 0.6% in April, matching consensus, while the annual rate accelerated to 3.8% from 3.3%. Core CPI overshot, lifting 0.4% on the month against expectations for 0.3%, pushing the annual pace to 2.8% from 2.6%.

Perhaps more concerning for the Fed, core services inflation excluding housing jumped 0.47% on the month, a pace that suggests the central bank’s ability to simply look through the initial inflationary impulse from higher energy prices may not last long if broader second-round effects begin emerging through the services sector.

Source: TradingView

Futures traders are now pricing around eight basis points of Fed hikes this year, up from effectively zero at the start of the week. But that shift has reflected forward-looking concerns tied to higher crude prices just as much as the inflation report itself, with only around two basis points of the roughly nine basis point rise in US two-year Treasury yields on Tuesday coming after the CPI release.

Soft USD sentiment remains dominant

While the USD did manage to catch a bid on Tuesday, coinciding with another push higher in crude prices after Donald Trump labelled Iran’s latest peace proposal “garbage” and “totally unacceptable”, reducing hopes for any near-term reopening of the Strait of Hormuz, broader directional risks for sterling over the past week and month have continued to be dictated far more by swings in risk sentiment than crude prices or rate differentials.

That could well flip should the current regime shift, but for now it suggests upcoming US data, including upstream producer price data on Wednesday and retail sales on Thursday, may continue to play a secondary role in the pound’s performance. More likely sources of volatility may instead come from political developments in the UK and geopolitical headlines out of Beijing as Xi Jinping and Trump prepare to meet on Thursday morning in Asia.

Rising wedge warns of downside risks

Source: TradingView

While sterling had been grinding higher over recent weeks, the rising wedge structure the price has been coiling within warns of the potential for an eventual downside break. We saw the price kiss the lower boundary of the wedge on Tuesday before bouncing alongside a recovery in riskier asset classes, reinforcing that it’s the immediate level to watch on the downside over the second half of the week.

If we were to see a clean breach of support, convention suggests we may eventually see a return towards where the structure formed near 1.3381, putting emphasis on the 100, 50 and 200-day moving averages, along with minor support at 1.3450, layered in between. Levels beyond to watch include 1.3348, with a break there opening up a dearth of visible technical levels until 1.3180.

Of course, with the price still coiling within the structure, there are other setups worth contemplating depending on how the price action evolves. If we were to see another retest of the lower boundary followed by a bounce, longs could be established with a tight stop below, targeting the top of the wedge found around 1.3660 today. Should the price instead test the upper boundary and fail, shorts could be established with a stop above, initially targeting the lower boundary.

After a lengthy period favouring long setups over shorts, the message from RSI (14) and MACD suggests momentum may be in the early stages of shifting. RSI has broken its lengthy uptrend and drifted back towards the neutral 50 level while MACD has crossed below the signal line despite remaining in positive territory. Overall, the oscillators favour a neutral bias which, as the range of setups outlined above suggests, means emphasis should remain firmly on the price action when assessing the merits of potential trades