The British pound spiked on a classic markets 'short squeeze'

CARL COURT /AFP / Getty Images

The pound just surged on global currency markets after the British High Court ruled that the UK government cannot initiate a formal break from the European Union without a vote of the nation’s parliament.

The UK currency has been wilting as currency markets have bet on a weakening of the British economy, a result expected by most observers if Britain leaves the EU.

This has meant billions of dollars in pound trades have been “short”, or betting the currency will fall.

When this trade fails – by the currency rising – traders need to close their short trade quickly. This creates a very high-pressure situation because traders are losing money by the second, and it keeps pushing the price higher, making losses greater and greater. It’s known as a “short squeeze”.

The most recent Commitment of Traders report from the US Commodity Futures Trading Commission showed that, on October 25, there was almost $US13 billion in leveraged funds bets that were short the pound against the US dollar. There was a further $6.6 billion in traders’ bets from institutional funds. And that’s before you get to other shorts that don’t really need to get reported.

This chart shows you nicely what happened on the High Court decision, in a practically textbook short squeeze that kept pushing the pound up and up against the US dollar.

Source: Investing.com

There’s an initial spike, followed by the gradual uptick over several minutes as traders scramble to cover their positions. It’s worth noting that the US dollar has been a little weak anyway on currency markets in the past 24 hours because of the rising uncertainty over the US presidential election outcome, which would have compounded the effect.

In the time it’s taken to write this short article the pound has started to fall again, underlining that this was a technically-driven spike.

Result: a lot of currency traders just got burned by the British High Court.

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