GBP/USD rebounds swiftly from YTD low, retakes 1.2400 amid modest USD pullback

• GBP/USD staged a solid intraday recovery from a fresh YTD low touched earlier this Monday.
• Modest USD pullback from a two-decade high prompted some short-covering around the pair.
• The diverging Fed-BoE policy outlooks warrant caution before placing aggressive bullish bets.

The GBP/USD pair witnessed a dramatic intraday turnaround and rallied over 140 pips from its lowest level since June 2020 touched earlier this Monday. The recovery momentum pushed the spot prices to a fresh daily high, around the 1.2400 round-figure mark during the mid-European session.

The US dollar eased a bit from a two-decade high as investors opted to take some profits off the table. This, in turn, was seen as a key factor that assisted the GBP/USD pair to find some support ahead of the mid-1.2200s and stall its dovish Bank of England (BoE)-inspired downward momentum. That said, any meaningful recovery still seems elusive amid the prospects for a more aggressive policy tightening by the Fed, which should help limit any deeper USD losses.

The markets seem convinced that the Fed would need to take more drastic action to bring inflation under control and have been pricing in a further 200 bps rate hike for the rest of 2022. Apart from this, concerns about rapidly rising consumer prices held the yield on the benchmark 10-year US government bond near its highest level in more than a decade. This, along with the prevalent risk-off environment, favours the USD bulls and should cap the GBP/USD pair.

Moreover, the BoE's gloomy economic outlook, saying that the economy was at the risk of a recession, suggested that the current rate hike cycle could be nearing a pause. The resultant policy outlooks between the Fed and the BoE might further hold back traders from placing aggressive bullish bets around the GBP/USD pair. Hence, any subsequent move up might still be seen as a selling opportunity and runs the risk of fizzling out rather quickly.

In the absence of any major moving economic releases, either from the UK or the US, the US bond yields and the broader market risk sentiment would drive the USD demand. Traders will further take cues from a scheduled speech by the BoE MPC member, Michael Saunders, which should influence the GBP and produce some trading opportunities around the GBP/USD pair. The focus, however, will remain on the release of the latest US consumer inflation figures on Wednesday.

Technical levels to watch