Trading the British Pound/U.S. Dollar
The British pound/U.S. dollar pair is one of the most liquid trades in forex. Bid-ask spreads are narrow, and arbitrage opportunities are next to impossible. Nevertheless, the liquidity of the pair along with the availability of numerous trading instruments makes the British pound/U.S. dollar a great choice for novice currency traders.
As with the euro/U.S. dollar pair, the single most important factor in shaping your opinion on the relationship between the currencies is the relative strength of the countries' respective economies. When American economic performance is stronger than the U.K.'s, the dollar usually appreciates against the pound. On the other hand, if the U.K.'s economy outperforms the States', the dollar usually weakens against the pound. This relative strength is frequently reflected in domestic interest rates, so traders should carefully watch the relationship between U.S. and U.K. interest rates. Also, since both the U.S. and the U.K. have very large financial hubs, the performance of their financial sectors and financial markets will also be important in discovering relative currency movements.
One very unique characteristic of trading the British pound is that there is often talk of whether the U.K. may soon join the Eurozone (or European Monetary Union, known as the EMU). Imagine this actually happened, the U.K. would then have to give up the pound and use only the euro as its domestic currency. It is generally believed that if the U.K. did join the EMU, it would first need to devalue the pound. Consequently, when U.K. politicians are speaking favorably of the possibility of joining the EMU, the pound typically depreciates; when U.K. politicians speak against joining the EMU, the pound will typically strengthen.
Although it's tiny in terms of land mass, the economy of the United Kingdom (U.K.)ranks among the biggest in the world. The British (U.K.) pound sterling (or simply the pound) plays a significant role in the international financial markets, making it a popular choice for forex traders in a pair against the U.S. dollar.
The Economy of the United Kingdom
For over a century, the United Kingdom was the world's most powerful nation. The U.K.'s economy was the world's biggest, and the small island nation dominated international trade. During this period, the British pound served as the world's unofficial reserve currency. Following the World Wars, the United Kingdom entered into a period of relative decline, while the United States grew into the position of the world's most dominant economic power. The U.K.'s growth also slowed due to heavy government regulation, while strict labor markets stunted economic activity.
However, the U.K. remained reasonably well-to-do, and since the 1980s, the U.K. has regained much of its previously lost economic vivacity. This rise has coincided with the U.K.'s enhanced standing as a major center for global finance. As U.K. and expatriate bankers flocked to London, the financial sector has become a very important part of the U.K.'s overall economy. That being said, the direction and strength of the U.K. financial sector plays a large role in determining the wellbeing of its economy.
The British (U.K.) Pound Sterling
Although the U.K. is a member of the European Union, the country remains outside the Eurozone (the European Monetary Union) and maintains its own currency, the British pound sterling.
Prior to the U.S. dollar becoming the world's reserve currency, the British pound held that position for more than a century. The pound remains an important currency and a popular trading target for traders of all types. The U.S. dollar and the pound are constantly traded between one another, and the pair has earned the nickname "the cable" among traders, in reference to early markets when bid and ask quotes were communicated between New York and London through underwater cables across the Atlantic Ocean. (For more on trading the GBP, see Top 8 Most Tradable Currencies.)