The much-anticipated EU referendum day did not disappoint those looking for volatility as the pound and stocks soared higher first thing this morning before dropping equally sharply in the afternoon. As we go to press, the markets have rebounded once again but remain on the edge as traders await the outcome of the vote in the early hours of Friday. As we reported earlier, it looks like the bookies and the markets are convinced that the outcome of the vote will be a clear win for remain. Either that or they have got it completely wrong, because the latest official polls are still very tight.
Scenario 1: Brexit
Clearly, an exit outcome would surprise everyone, probably even those who have been voting Brexit today. In this scenario, the markets and the pound will likely tank and safe haven assets surge higher. And the aftershocks would likely be felt for days and weeks to come as an exit could have severe short-term economic implications for both the UK and the EU. The GBP/USD could easily drop back to long-term support at 1.40 and possibly 1.35 by early next week.
Scenario 2: Bremain
With the pound and stocks already enjoying a nice rebound this week, we do need to be wary of the possibility of "buy the rumour, sell the news" type of a reaction if the outcome of the vote is remain. While the pound and stocks could easily extend their gains in the event of a remain outcome, as Brexit risks are still not completely priced out for obvious reasons, I think the potential upside will now be limited, certainly compared to how much they could fall in the event of an exit outcome.
Thus, if the outcome is indeed remain, the GBP/USD may extend its rally before the profit-takers and new sellers potentially exert their pressure, similar to how the Cable reacted in the aftermath of the stay vote in the Scottish independence referendum back in 2014 (see the comments on the chart for more). So, just because the GBP/USD has been rallying in recent days and it may well rise further tomorrow in the event of a "remain" outcome, it does not necessarily mean it will be able to hold onto its gains in the coming weeks. The focus will quickly shift back to the wider global issues, including the Fed and therefore US data such as next month’s NFP report. Of course, I could well be very wrong but it is worth pointing out that possibility nonetheless.
How to trade the GBP/USD once the outcome is known
Trading the outcome of this key risk event is likely to be very tricky as the market could easily gap 100s of pips in search for liquidity, especially if the Brexiters win. Most human traders will have no chance to thrive in this market environment, unless they were already in a position prior to the news. With the in mind, traders may wish to just watch price action for a while before pulling the trigger. They should certainly watch the key levels of support and resistance very closely and look for signs of failures or reversal-looking price action on smaller time frames.
As shown on the daily chart in shaded blue, the key support area is between 1.4660-1.4770: this area had been strong resistance in the past while the 200-day moving average also comes into play here. If the buyers fail to hold their ground above this region then there is really just thin air underneath here until the 50-day moving average at 1.4475 or previous support at 1.4350.
The key near-term resistance levels meanwhile are at 1.4945, today’s high, then 1.5000, the psychologically-important level. Traders should watch their smaller time frames for signs of fatigue or swing pattern failures around this region. If seen, the GBP/USD could easily drop back to at least the 1.4660-1.4770 key support region (like it did earlier today). However, if price action looks and feels strong above 1.5000 then it is anyone’s guess how far the Cable could extend its advance. The first important level beyond 1.5000 is probably around 1.5120, which corresponds with the shallow 38.2% Fibonacci retracement against the 2014 high.
Good luck if you are trading the outcome of the EU referendum, but please be careful with your risk management as volatility could be abnormally high in the coming hours, especially during the illiquid Asian hours. Don’t feel the need to trade if price action does not meet your entry criteria or does not make sense to you. The markets will be here tomorrow and there will be plenty of other opportunities to take advantage of.