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Friday July 22, 2005 - 14:52:08 GMT
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Forex Market Commentary and Analysis (22 July 2005)

The euro depreciated vis-à-vis the U.S. dollar today as the single currency gave back all of yesterday’s RMB-revaluation-inspired gains and tested bids around the US$ 1.2190 level. The common currency topped out just below the $1.2190 level and stops were triggered below the $1.2135 level in the North American session. There are no U.S. data scheduled for release today. Minutes from the 30 June Federal Open Market Committee meeting were released yesterday and policymakers made it abundantly clear that additional removal of monetary policy accommodation is forthcoming. Fed policymakers noted “the FOMC needed to be particularly alert to signs of a further increase in inflation…such an increase could be particularly problematic because it might impact upward momentum to inflation expectations that would be costly to reverse.” Regarding the magnitude of additional rate hikes, the Fed reported “that the appropriate pace and degree of cumulative policy adjustment would depend on economic developments going forward.” U.S. Treasury Secretary Snow praised China’s move to revalue the yuan yesterday and said G7 officials concur that it was a positive first step. Snow also said he’s not concerned about the effect of the move on U.S. Treasuries. U.S. debt sold off yesterday under the premise that China will be purchasing less U.S. Treasuries because their demand for U.S. dollars to artificially devalue the yuan will likely be reduced. In eurozone news, data released today saw EMU-12 May industrial new orders fall 1.5% m/m with the annualized rate fell to -3.3% y/y from a revised +1.7% y/y in April. Euro offers are cited around the $1.2160/ 1.2245 levels.


The yen ceded some of yesterday’s strong gains vis-à-vis the U.S. dollar today as the greenback tested offers around the ¥111.25 level and was supported around the ¥110.20 level. The pair finished the day yesterday with more than a 250 pip decline following China’s revaluation of its yuan currency. Asian currencies followed China’s yuan as it appreciated and dealers took back some of that move today. Economy minister Takenaka today said Japan “will be watching closely whether the Chinese monetary authorities manage the currency trading system more flexibly and in a more market-driven fashion in the long-term.” Likewise, Chief Cabinet Secretary Hosoda said Japan “would welcome it if the yuan becomes more flexible.” It is clear that Japan is not satisfied with the magnitude of China’s revaluation but welcomes the move as a first step. Finance minister Tanigaki said the revaluation has “fairly large significance for Asia's monetary system” while Prime Minister Koizumi reminded people that Japan “revalued the yen to 308 to the dollar from 360 yen” in 1971 – an indication that he wants to see more revaluation from China. Japan’s trade surplus has diminished significantly in recent months and the artificially-devalued yuan is one primary reason why this has occurred. For reference, if the yuan was to become a free-floating currency at current exchange rates, the RMB/ JPY cross rate would be trading around 13.70. It is likely that RMB/ JPY will become the dominant Asian cross rate once China fully liberalizes the yuan, a move expected before final WTO accession in 2007 and the 2008 Beijing Olympics. The question now becomes how much the yuan will appreciate and whether its appreciation will lead to yen appreciation and a resumption of yen-selling intervention by Japanese monetary authorities. Data released in Japan today saw the May tertiary index fall 1.5% m/m. Also, capital flows data released overnight saw net purchases of overseas assets by Japanese investors of ¥571.6 billion in the week ending 16 July while foreign investors purchased a net ¥611.1 billion in Japanese assets. The Nikkei 225 stock index shed 0.78% today to close at ¥11,695.05. Dollar bids are cited around the ¥110.75/30 levels. The euro, British pound, Swiss franc, and Australian dollars appreciated vis-à-vis the yen as these crosses tested offers around the ¥135.30, ¥195.00, ¥86.55, and ¥85.35 levels, respectively. In Chinese news, one-year non-deliverable yuan forwards are pricing in around a 6% appreciation in the yuan over the next year to around 7.64 to the dollar. Following yesterday’s revaluation, the yuan is permitted to move 0.3% every day vis-à-vis the U.S. dollar. Hence, dealers really have no idea if the dollar will trade at RMB 8.11 for the day, week, month, or year. On its first day of trading following yesterday’s revaluation, the dollar closed at RMB 8.1111.

The British fell sharply vis-à-vis the U.S. dollar today as cable tested bids around the US$ 1.7410 level after capping out around the $1.7570 level. Sterling notched some 120 pips of gains yesterday after China’s revaluation but the real impetus for a stronger pound yesterday was a surprisingly strong June retail sales number in the U.K. These data were tampered by today’s weaker-than-expected Q2 U.K. GDP data that came in at +0.4% q/q and +1.7% y/y, a bit less-than-expected. The quarter-on-quarter number equaled Q1’s pace of expansion and the annualized number was the lightest since Q1 1993. Notably, services growth expanded 0.6% q/q while industrial production and manufacturing were off 0.4% q/q and 0.7%, respectively. Technically, this means the U.K. industrial sector is in a recession. The possibility of a monetary easing next month by Bank of England’s Monetary Policy Committee becomes a big question following the 5-4 vote in July to keep rates steady, today’s weaker GDP numbers, and yesterday’s stronger retail sales numbers. Recent terrorist-related incidents in London may also play into policymakers’ decisions next month if they feel it retail sales and consumption will slow as a result. Cable offers are cited around the $1.7520 level. The euro was little-changed vis-à-vis the British pound as the single currency tested offers around the ₤0.6960 level and was supported around the ₤0.6930 level.

The Swiss franc depreciated vis-à-vis the U.S. dollar today as the greenback tested offers around the CHF 1.2920 level and was supported around the $1.2820 level. The dollar reclaimed all of its lost ground from yesterday and today tested the 38.2% retracement level of the move from CHF 1.2560 to CHF 1.3080. Dollar bids are cited around the CHF 1.2815 level. The euro and British pound lost ground vis-à-vis the Swiss franc today as the crosses tested bids around the CHF 1.5615 and CHF 2.2440 levels, respectively.


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