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Thursday January 18, 2007 - 11:55:11 GMT
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Forex:Mellon FX Daily - U.S. Edition

Mellon FX Daily
06:35 EST Thursday, January 18, 2007

Key Points
• BoJ rates unchanged - 3 members favour rate hike.
• JPY weakness likely to continue.
• EUR-USD steadier but key levels yet to break.
• GBP remains firm – EUR-GBP support at 0.6545.
• US CPI, housing starts, Philly Fed index, Bernanke speech, BoC Policy report, NZ retail sales feature today.

Market Outlook

The BoJ left rates unchanged with a 6-3 vote – the three favouring a rate hike. The three dissenters took the view that the economy was strong enough to proceed with a tightening, while the majority saw the need for a more cautious approach given recent fragility in consumer spending and uncertainty about the outlook for CPI. Fukui admitted that he and two deputy governors had favoured the unchanged rate outcome, but also said that the differences between all the board members were slight. The market will hold on to expectations of a hike at the next meeting on Feb 20-21, although there are no guarantees that this will happen. The data needs to fall into place to eradicate current uncertainties.

The JPY has been weakening since the decision and USD-JPY has briefly traded above the 121.40 high from December 2005 (high this morning of 121.46). There is talk of another option barrier at 121.50 and the next resistance is at 121.88 (high from March 2003). These are fairly decent levels, although in the current circumstances (i.e. affirmation of the JPY’s low yield status) they are likely to break over the next week or so. JPY weakness is favoured across the board and it is no surprise that the AUD and the NZD have outperformed overnight (being the higher-yielding adversaries of the low yielding JPY). EUR-JPY looks set for a retest of the recent high at 158.05, while GBPJPY is facing up to 240. These levels might be difficult to break in the first instance, although overall risk is to the upside.

EUR-USD is trying to find a base, with yesterday’s low of 1.2898 higher than the recent low at 1.2867. Any move above Tuesday’s high at 1.2988 would further fuel expectations of recovery, although for choice one would want to see it advancing strongly through the recent breakout point at 1.3050 before getting too excited. This could prove difficult with long liquidation pressure still likely to be in evidence. Recent US data, including a slightly better NAHB housing index and upbeat Beige Book, also suggest decent support for the USD, so downside risk on EUR-USD is not over yet.

EUR-GBP continues to look fragile, although for now support at 0.6545 (2004 low) remains intact. There was more evidence of UK economic buoyancy this morning with a surprisingly strong quarterly survey from the British Chambers of Commerce. This survey is a fairly comprehensive representation of the UK economy, covering 4,500 entities from both service and manufacturing sectors. The latest survey showed sales and orders in the both manufacturing and services at very high levels. In manufacturing both orders and sales balances were the highest since 1994, although this seems inconsistent with the monthly PMI surveys. Service sector sales and orders were also up sharply (sales the highest since Q2 2004, orders the highest since Q4 2000). Price balances (relating to whether respondents have lowered or raised prices during the quarter) were also higher, with both manufacturing and service sector numbers the highest since the price series began (it only goes back to Q2 1997). The survey offers some support to the way sentiment has been developing in the UK money market, although two rate hikes by May should still be seen as an extreme scenario.

Day Ahead
US – Bernanke testifies before the Senate budget committee on Long-Term Fiscal Challenges Facing the United States and this should also see some references to the economic outlook. Key will be how he describes recent developments, which have generally shown activity slightly more solid and prices slightly more subdued.

On the data front, CPI, housing starts, building permits and the Philly Fed survey feature. The main focus will most probably be on the CPI data to see whether last month’s zero reading on core CPI is repeated or exposed as a one-off. The officially preferred core PCE prices number is not released until January 30 and together these numbers will have a bearing on the language used in the Jan 31 FOMC statement. A repeat of the zero reading of last month could prompt speculation about a slight softening in the language on inflation risk, although the Fed will probably want to see several months of evidence before declaring an absolute all-clear. Housing starts rose 6.7% last month, although this only partly offset the very large 13.7% fall seen the previous month, while building permits have yet to show any pullback from the downtrend in place since the beginning of 2006 (see chart). The Philly Fed survey was negative last time (-4.3) and whether or not this moves back into positive territory could influence expectations about the next ISM manufacturing number.

Canada – the BoC release their Monetary Policy Update, while manufacturing shipments are also due. The BoC Report is likely to merely see a reiteration of Tuesday’s message after they left rates unchanged, albeit with more detail. Also significant in Dodge’s press conference will be whether he draws attention to recent CAD weakness. Earlier this month he said it was not totally surprising given the falls in certain commodity prices. Manufacturing shipments have been weak in recent months (Oct -0.1%, Sep -3.2%, Aug -0.9%) and the market is expecting a 1.1% rebound today.

New Zealand – with CPI having come in weaker than expected yesterday (including some core measures) one of the arguments supporting a rate hike next week has been undermined. Another tenet of RBNZ thinking on the possible need for tightening is the strength of household demand so tonight’s retail sales data could be significant.

Data/event EDT Consensus*

US Fed’s Pianalto on econ outlook 08.00
US CPI (Dec) m/m 08.30 +0.5%
US CPI core (Dec) m/m 08.30 +0.2%
US Housing starts (Dec) 08.30 1560k
US Building permits (Dec) 08.30 1524k
US Initial claims (w/e Jan 13) 08.30 310k
US Continuing claims (w/e Jan 6) 08.30 2428k last
CA Manu shipments (Nov) m/m 08.30 +0.7%
CA Net portfolio balance (Nov) 08.30 -C$11.8bn last
US Bernanke testifies on fiscal issues 10.00
CA BoC Monetary Policy Update 10.30
CA BoC’s Dodge press conference 11.15
US Philly Fed index (Jan) 12.00 +3.0
NZ Retail sales (Nov) m/m 16.45 -0.1%

Latest data Actual Consensus*
US NAHB housing index (Jan) 35 33
JP Tertiary index (Nov) m/m -0.3% -0.1%
JP BoJ rate announcement unch unch
GB BCC econ survey (Q4) most categories were strong
* 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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