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Thursday July 13, 2006 - 10:55:20 GMT
Mellon Bank Foreign Exchange - https://fx.mellon.com/

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Mellon FX Daily - European Edition

Key Points
• Market uncertainty weighs on positioning – US
earnings season, BoJ in focus.
• BoJ may err on the side of caution tomorrow –
August CPI revision will be key for sentiment about
future policy.
• CHF supported by Israeli/Lebanese conflict.
• AUD looking good as data supports RBA rate hike
on August 2.
• ECB bulletin, UK BCC survey, BoC Policy Report
feature today.

Market Outlook

Uncertainty reigns, especially amongst those with existing positions. For a time yesterday EUR-USD was falling while equity markets were mproving and this is not something that has been commonplace over the past couple of months, with rising equity markets typically associated with improving risk appetites and a greater willingness to maintain short USD positioning. As it happened, equities eventually weakened anyway, but EUR-USD just about held on to the pivotal area around 1.2660-70, which has marked both bottoms and tops of trading ranges since early May. Patience is basically wearing thin amongst those looking for a further fall in the USD, with the latest disappointment being the lack of followthrough to what was generally considered to be a less hawkish presentation from the Fed at its last meeting. A stronger EUR-USD is favoured overall, but there are clearly risks to that scenario in the short-term. A break below the forementioned area at 1.2660-70 would trigger some liquidation of long positioning. The immediate uncertainty relates to the possible fragility of global equity markets running into the US corporate earnings season and tomorrow’s <>BoJ outcome. The former is as much about earnings prospects for the remainder of the year than about what happened in the latest quarter, with the market still
on alert to the possibility of a peak in earnings as well as economic growth. GE’s results tomorrow will be a key driver of entiment on this issue ahead of the next two weeks, when the vast bulk of corporate earnings will be released. The BoJ rate hike has generally been seen as a done deal and whereas talk of BoJ policy change a few months back unsettled equity markets (via JPY liquidity arguments) there has been less angst about the issue on this occasion. However, with sentiment a little fragile because of other matters i.e. US earnings, this is no longer an absolutely given. As for what the BoJ will do they will be tempted to go ahead and hike 25bp given that the market has been expecting such an outcome, we still see a significant chance of a more cautious approach (10-15bp hike rather than no hike at all). Over the past couple of days it is the discount rate that has been the major source of speculation. In the case of a rise in the call rate to 0.25%, there is uncertainty about what will happen to the discount rate (currently 0.1%). A move to 0.5% would perhaps make for a more efficient working of the money market, but this may be seen as sending the wrong signal about future tightening prospects so there has been talk about 0.4% or even 0.35%. However, the BoJ could quite easily communicate sentiment about future policy actions verbally if it so desires. What is clear though is that the market is now looking beyond the largely symbolic announcement of the end of the zero interest rate policy and is now eager for indications about how far and how fast rates will rise over the coming year. A key factor in this regard will be the CPI revision scheduled for August 25. The composition and base year of the CPI will be altered and the government is likely to formalise the core measure excluding both food and energy, but will of course continue to publish the existing core measure, which only excludes fresh food. The government has only been publishing an estimate of the ex-food and energy measure since the back end of last year and this has been running below the y/y rate of the core measure excluding just fresh food (the latter still being the primary focus of the BoJ). For example, last month, while the current core CPI y/y rose to +0.6% from +0.5%, the equivalent number on the ex-food and energy measure eased back to +0.1% from +0.2%. The big problem is that the CPI revision is expected to have a dampening impact on the index and if this also equates to a lower y/y rate the ex-food and energy y/y rate could slip back into negative territory. Such a development would not be lost on a government that is still taking the view that deflationary forces have not yet been eradicated. Whatever happens on August 25 could have major implications for sentiment about both BoJ policy in Q4 and Q1 and the JPY.
labour market data came out stronger than expected, suggesting that an August 2 RBA rate hike is now pretty much a done deal. It will take a remarkably weak Q2 CPI report (due July 26) to counter this. This backdrop should see further AUD outperformance over the next couple of weeks. The RBA’s Stevens did not add that much to the debate. He noted that wages had been well behaved but that the last rate hike had not hit consumer sentiment as much as previous moves. Increasing conflict between Israel and Lebanon has been supporting the CHF this morning, although supports at 1.5605-30 on EUR-CHF need to break to get this going.

Market Outlook
DT Wednesday June 8 2005
Day Ahead
Eurozone - the ECB’s monthly report is due out and this should reflect the sentiments aired by Trichet at the recent postmeeting
press conference. In this regard it should support sentiment about the likelihood of a rate hike on August 3.
UK - the British Chamber of Commerce survey of business in both manufacturing and service sectors is released and is likely
to paint a fairly resilient picture of growth, although according to the media there may be some indication of disappointment on
exports, which would be in contrast to the more upbeat noises coming through the CBI survey.
Canada - the Monetary Policy Report Update should flesh out the comments made in Tuesday’s policy statement and the
market will be looking for more clues about policy risks in the coming months. However, steady policy is again likely to be the
central message. A key element of the growth moderation scenario painted by the BoC is a negative contribution from net
exports and exports were once again fairly soft in yesterday’s trade release. Short-term upside risk remains on USD-CAD while above 1.1290-1.1310.

Diary

Data/event EDT Consensus*

EU ECB monthly bulletin 09.00
GB BCC business survey (Q2) 11.00
NZ PMI manu (Jun) 13.00 58.2 last
US Initial claims (w/e Jul 8) 13.30 320k
US Continuing claims (w/e Jul 1) 13.30 2455k last
CA BoC Policy Report Update 15.30
US Federal budget (Jun) 19.00 $20.0bn
US Fed’s Stern speaks on economy 21.15
AU Trade balance (May) 02.30 -A$1.1bn
Latest data Actual Consensus*
NZ Retail sales (May) m/m +1.3% +0.5%
JP Trade balance (May, sa) ¥1.6trn ¥1.6trn
AU Employment (Jun) +52k +10k
AU Unemployment rate (Jun) 4.9% 4.9%
JP Ind prod (May, final) m/m -1.3% -1.0%
FR CPI (Jun, prel) y/y +1.9% +2.0%
* Consensus unless stated

©2006, 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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