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Friday June 23, 2006 - 10:41:52 GMT
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Forex: Mellon FX Daily - U.S. Edition

Key Points
• Market volatility continues – least liquid markets the biggest losers as investors exit.
• Anxiety likely to remain high ahead of next week’s FOMC meeting.
• USD has short-term upside risk against majors.
• BoC’s Dodge downplays recent data strength.
• US durable orders today’s main data feature.

Market Outlook

There has been no major change in the basic themes. Market anxiety is high and is likely to remain so until next week’s FOMC meeting, where the central focus will be on the signals about future rate hike risk. In this environment most higher risk assets like emerging currencies and equities will struggle to make any sustainable recoveries. The scale of the turnaround seen yesterday in some emerging currencies (after initial gains) was notable and a sign that for the time being investors are using such rallies to liquidate or to boost hedges on their underlying exposures.

The ZAR and TRY have been two of the weakest currencies, which is a reflection of poor market liquidity more than anything else. When investors are looking for the exit the most illiquid currencies are the most vulnerable and so it has proved with the TRY and the ZAR over the past 24 hours. Fundamental arguments in favour of both currencies could easily be made, but these carry little weight in such circumstances given the uncertainty about how long and how far corrective forces will develop. A recovery is likely eventually but it is a difficult trading strategy to adopt in current circumstances. Better to wait until there are more convincing signs that a bottom has been found (i.e. a few failed attempts at a certain level and a couple of rising lows).

Other peripheral currencies have also been suffering, with the USD-CAD having reversed the strength seen earlier in the week, although the latter was also due in part to comments made yesterday by BoC governor Dodge, who appeared to downplay the recent strength in CPI and employment data. He said that “month-to-month movements in these numbers are often very volatile”, indicating that they would like to see how subsequent data unfolded. The July 7 employment report will be closely watched in this regard ahead of the next BoC meeting on July 11. 1.1280 is key short-term resistance on USD-CAD – support now at 1.1160-80.

The NZD has built further on yesterday’s break below key shortterm
support at 0.6145. Much has been made of the current account numbers released yesterday and while they were bad, they were not that much worse than the market had been expecting. More than anything they have probably served as a reminder about the poor current account deficit background that has long been in place for the NZD and this has happened in an environment where the market is not that forgiving. The break below 0.6145 has generated the momentum for the move. The 0.5993 low from March is now under threat ahead of the May 2004 low of 0.5914. If these break there could be further sizeable losses, but they may just hold in the short-term.

This type of background, insofar as it creates a) uncertainty over positioning in general and b) flows back into the USD investor base, will leave an upside risk for the USD against the majors and staying generally long USDs still looks the best safety option ahead of next week’s FOMC announcement. Of the majors, cable has been the most notable casualty in terms of negative technical developments, with previous support at 1.8300-20 having given way. This area needs to be won back quickly to avert further downside pressure in the short-term and the signs are not looking good this morning. Next supports are at 1.8150 and 1.8000.

EUR-USD is hanging on to 1.2500-30 for now, but this area could easily break in the short-term. USD-JPY has so far been unable to break above the congestion range running from 115.50-116.70.

Day Ahead
US – durables orders data are due today and while the data is volatile on a m/m basis there is no questioning the uptrend that is currently in place. Given current fears about inflation and monetary overkill the market will be anxiously looking for signs of growth moderation. A very weak number would create some alarm in global markets for this reason, while a very strong number would soothe slowdown concerns but supplement expectations of Fed tightening. A modestly positive number is probably the best outcome for general market stability.

Data/event EDT Consensus*

DE CPI states (Jun, prel) m/m from today +0.1%
US Durable orders (May) m/m 08.30 +0.4%
US Durables ex-transport (May) m/m 08.30 +0.6%
BE Business confidence (Jun) 09.00 1.4

Latest data Actual Consensus*
NZ GDP (Q1) q/q +0.7% +0.7%
NO Unemployment rate (May, sa) 3.7% 3.9%
* Consensus unless stated
3mth moving average

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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