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Tuesday November 7, 2006 - 11:33:05 GMT
Mellon Bank Foreign Exchange -

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Forex: Mellon FX Daily - U.S. Edition

Key Points
• Market focuses on hawkish elements of Fukui comments.
• EUR-USD looks like being hemmed in by recent ranges.
• US elections unlikely to offer any fresh initiatives for FX market.
• RBA rate announcement, Australian housing finance feature tonight.
• Most of the AUD gains have probably been seen for now.

Market Outlook

The USD weakened in the Asian session, led by USD-JPY, following comments from BoJ governor Fukui. He said that the BoJ would be pre-emptive in their approach to policy and that it would be dangerous to wait until inflation builds up before taking action. The market took this as a sign that the BoJ may hike rates sooner than previously thought, but Fukui also reiterated previous comments about there being no set schedule for policy tightening and that any moves would be gradual. He also said that it would be dangerous for the market to assume that rates would remain very low for a long time regardless of activity and prices, as this in itself would be destabilising to the economy. He said that in real terms the JPY was at its weakest point since 1985 and that this in combination with low interest rates could lead to excessive capital spending by corporates. The comment about not taking any chances with inflation may just be typical central bank speak, but it seems clear that the BoJ does not want the market to become complacent about the risk of rate hikes.

Rate expectations firmed very marginally on the comments (Dec and Mar Euro-Yen futures 1-2 ticks). USD-JPY was trading around 118.05 ahead of the comments and fell back to 117.66 before stabilising.

Major movement looks unlikely today on EUR-USD – last week’s highs in the 1.2780-1.2800 area should offer solid resistance and more likely is a drift back lower. Initial support is at 1.2680-1.2700 ahead of the key 1.2630-50 area. There is some minor downside risk on USD-JPY while it remains below 118.00. Buoyant equity markets have been weighing on the CHF, although 1.60 has proved to be impenetrable thus far on EUR-CHF. However, 1.60-plus levels looks like being tested in the next few days – 1.60 being the bottom of the next resistance area running up to 1.6175. However, this may be difficult to sustain, with the SNB becoming increasingly mindful of CHF weakness against the EUR.

Day Ahead
US – mid-term Congressional elections are held in the US and the central issue is whether the Democrats can win back control of the Senate and/or the House. All 435 seats in the House of Representatives, 33 (out of 100) Senate seats and 36 state governorships are being contested today. The Democrats need to win 15 House seats to end Republican control of the House for the first time since 1994, while they need 6 seats to assume control of the Senate. A takeover of the House looks very likely given the state of current opinion polls and the number of seats being contested, while the outcome in the Senate is less clear. Market impact is unlikely to be that great. Some would argue that gridlock in the legislature is not good, but a reduced Republican hold on Congress would lower the risk of new spending or tax cut measures being forced through in the next two years.

Australia – a 25bp rate hike looks likely from the RBA tonight, although this should already have been discounted by the market. The tone of their statement will be a key feature and whether this lends support to the notion of even more tightening in future. Key in this regard will be how they describe current CPI risks. More detail on the RBA outlook will be provided in their Monetary Policy Statement, due next week on November 13. Housing finance data is also due and the market is looking for a sizeable fall in response to higher interest rates. The tone of this data could have some influence on market sentiment post-RBA, although employment data due the following day will also be important. The AUD may struggle to make further gains in the very short-term, with 0.7770-7800 likely to cap any further advances for the time being. Below 0.7670 would trigger some corrective risk, but this should prove limited.

Data/event EDT Consensus*

US Mid-term elections
US Chain store sls (w/e Nov 4) w/w 07.45 -0.2% last
US Redbook sls (w/e Nov 4) m/m 08.55 +1.3% last
NO Norges Bank’s Gjedrem speaks 10.00
US Consumer credit (Sep) 15.00 +$6.0bn
US ABC consumer conf (w/e Nov 5) 17.00 -3 last
AU RBA rate announcement 17.30 +25bp
AU Housing finance (Sep) m/m 19.30 -3.0%

Latest data Actual Consensus*
GB NIESR GDP (3mths to Oct) q/q +0.7% +0.7%R last
CH Unemployment rate (Oct, sa) 3.2% 3.2%
NO Manu output (Sep) m/m +0.3% +0.5%
EU Retail sales (Sep) m/m -0.6% -0.4%
GB BRC retail survey (Oct) y/y +2.6% +2.4% last
DE Ind prod (Sep) m/m -0.3% +0.1%
* 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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