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Thursday October 20, 2005 - 10:43:29 GMT
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Forex: Mellon FX Daily - U.S. Edition

Key Points
• Yesterday’s volatility introduces some uncertainty to short-term direction.
• EUR-USD downside still favoured overall but above 1.2000-25 could see some initial stabilisation. 1.1868 needs to be cleared to open downside.
• UK data strength further undermines November rate cut argument.
• Riksbank leaves rates unchanged.
• BoC Policy Report, US Philly Fed index and Fed speakers feature today.

Market Outlook

The volatile trading seen yesterday, especially in the European morning, maintains some uncertainty about near-term direction. Talk of hefty Asian central bank buying (amongst other things) will mean the market will proceed cautiously if EUR-USD downside is again tested today. We still favour the downside, although the main hurdle at 1.1868 (2005 low) needs to break and there could be some initial stabilisation in the short-term if the 1.2000-25 area can be cleared. Upside is also still favoured on USD-JPY. The break above 115.00 is likely to have further to run (117.00-50) before attempting any retrenchment. Tonight’s activity indices may have some impact.

Further damage was done to the notion of a UK rate cut in November following the publication of stronger than expected retail sales and mortgage lending data. The strength in the sales (volume) data was in part due to ongoing heavy discounting in the face of very weak retail conditions, but the number was stronger than expected and the rise in mortgage lending (strongest for nine months) is another piece of data suggesting some stability in the housing market. These releases, together with yesterday’s minutes and speech by Lambert means that we can no longer forecast a November rate cut with confidence. It still seems likely that a number of MPC members, perhaps even a majority, will see a downside risk to growth and CPI forecasts in 2 years time, but this may not be severe enough to push them into cutting rates. Yesterday, Lambert suggested that the risks were still to the downside, but also appeared to attach a fair amount of weight to recent oil price developments and the uncertainty this created (both ways) for growth and CPI forecasts. This suggests a possible need for reflection on the part of the key ‘swing’ voter on the MPC. He was the MPC member who changed his mind in August, turning a 5-4 vote against a rate cut in July into a 5-4 one in favour of such a move in August. The November decision is now a close call. GBP looks better as a result and while it will continue to reflect the swings in the data in the short-term there will be additional downside risk on EUR-GBP if 0.6770 can be breached. …

The Riksbank left the repo rate unchanged (as the market had expected) and offered no clear view on the timing of future rate rises. Indeed, the failure to explicitly mention the idea that rates will be going up fairly soon, as they have intimated in the past, was the main source of the disappointment for the SEK and this does introduce some extra risk for the SEK in the very shortterm. Key today will be whether EUR-SEK can gain a convincing foothold above 9.50. If it can there is room to 9.58- 9.60 short-term. Back below 9.4350 is really needed to take the pressure off.

The Riksbank believe that CPI will continue to rise towards target in the 2-yr period and were fairly optimistic about domestic demand and the likely evolution in the labour market. However, oil prices were cited as a factor that introduced uncertainty into both growth and CPI forecasts. The Inflation Report (also released) included for the first time a set of forecasts based on the market’s expectation about the evolution of the repo rate, rather than an unchanged rate. This currently sees the repo rate being left unchanged until Q2 next year. However, the Riksbank said that while this interest rate trajectory did currently produce an acceptable outcome for CPI, it should not be seen as an indication of the actual likely path in the repo rate. They said there ‘were many alternative paths for the repo rate that would give roughly the same outcome for inflation’. In concluding they said that future policy would depend upon the data.

Day Ahead
Canada – the Bank of Canada release their Monetary Policy Report and it is likely to add some flesh to the bones of the statement released after Tuesday’s rate hike. The bias for further tightening in the short-term should once again be put forward and this will maintain some support for the CAD. As we have noted recently, the big problem for the CAD at the present time is whether the market has the confidence to pursue USDCAD downside at a time when the USD is threatening higher against other currencies. Below 1.1725 and 1.1680 on USDCAD is needed to suggest that it can.

US – the Philly Fed index is the main data feature today. Last month it dipped sharply, in contrast to the more resilient showing in the NY Fed index. The latest NY Fed survey released earlier this week showed a further modest fall in the index, although a bounce back should be seen in the Philly Fed version today. More Fed speakers also appear including a speech by Lacker on policy after Greenspan.

Data/event EDT Consensus*

US Initial claims (w/e Oct 15) 08.30 389k last
US Continuing claims (w/e Oct 8) 08.30 2873k last
US Lead indicators (Sep) m/m 10.00 -0.5%
CA BoC Monetary Policy Report 10.30, press conference 11.15
US Philly Fed index (Oct) 12.00 10.5
US Fed’s Guynn spks on economy 13.10
US Fed’s Lacker on policy after Greenspan 19.00
JP Tertiary index (Aug) m/m 19.50 +0.9%
JP All-industry index (Aug) m/m 19.50 +0.8%

Latest data Actual Consensus*
CN CPI (Sep) y/y +0.9% +1.2%
CN GDP (Q3) y/y +9.4% +9.2%
SE Unemployment rate (Sep, nsa) 5.4% 6.0%
IT Consumer confidence (Oct) 105.3 103.0
GB Retail sales (Sep) m/m +0.7% +0.4%
GB BBA mortgage lending (Sep) +£5.0bn +£4.3bn
GB PSNCR (Sep) £11.8bn £10.0bn
EU Trade balance (Aug, prel) -€0.7bn €0.5bn
IT Ind orders (Aug) m/m +1.0% -2.2%
* Consensus unless stated

2005, Mellon Financial Corporation Note: Although obtained from sources believed by us to be reliable, Mellon Financial Corporation and its affiliates cannot guarantee the accuracy or completeness of the information upon which this report is based. This report does not purport to disclose the risks or benefits of entering into particular transactions and should not be construed as advice in any specific instance. The views in this report constitute our judgement as of this date and are subject to change without notice.
Ian Gunner 44 20 7163 5996 06.40 EDT Monday May 31 2005


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