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Monday February 12, 2007 - 11:33:08 GMT
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Forex Research - Mellon FX Daily - U.S. Edition

Mellon FX Daily 06:15 EST

Key Points
• Not much unanimity behind G7 efforts against the weaker JPY trend.
• Attention will now switch to BoJ meeting on Feb 21.
• RBA advances slightly softer policy statement.
• Better news on UK pay trends ahead of key data week.

Market Outlook

D The G7 attempt to avert further JPY weakness has not been that effective so far, which is not surprising as they are not currently in a position to alter the interest rate backdrop driving these trades. The G7 statement did not mention the JPY, but in the opening paragraph, which describes developments in member economies, the last two lines were as follows – “Japan's recovery is on track and is expected to continue. We are confident that the implications of these developments will be recognized by market participants and will be incorporated in their assessments of risks.” The implication is fairly clear and was supported by varying degree in comments from officials. Trichet said "We want the markets to be aware of the risks of one-way bets, in particular on the foreign exchange market," adding that he was not talking only about yen-based carry trades. "One-way bets in the present circumstances would not be, it seems to us, appropriate. We want the markets to be aware of the risks they contain," he said.

The support from Japan was more guarded and diplomatic. Japanese Finance Minister Koji Omi noted that “some people said the JPY’s level is too low in today’s discussions and I explained that currencies should reflect fundamentals and that Japan is aiming to achieve sustainable growth under price stability.” When asked about the references to Japan in the opening paragraph of the statement, he merely said that "thismeans that G7 countries think that markets, particularly forex markets, should recognise the risk of moving in one direction too heavily."

In sum, there seems to be an acknowledgement about the risks of over-positioning, but Japan was not prepared to say that the JPY was too weak. The US was also unwilling to comment too much on these matters, suggesting a continuation of their own view that markets should be largely left to their own devices. The key issue for the JPY will be whether or not there can be some recovery in interest rate expectations and this in turn will depend upon the data. Q4 GDP will be the main focal point this week in this regard and a strong number could lead to some profit taking on the JPY. The next BoJ meeting is on February 21. However, with key data like CPI and consumer spending having remained soft of late, even GDP strength is unlikely to be enough to lead the BoJ into action.

EUR-JPY made new highs in the Asian session, which was absent of Japan, but has been on the retreat in the European morning. Some positional adjustment risk exists, but the main reasons for the carry trade remain in place. However, the next decent move down in the JPY may have to wait until after the BoJ meeting. 124 on USD-JPY and 160 on EUR-JPY are still plausible in the weeks ahead.

The pullback in EUR-JPY has also meant a weaker EUR-USD, which having failed at the top end of the current 1.2860-1.3050 range, has quickly reverted to the middle of this range. The near term outlook remains a little unclear.

A more relaxed RBA Monetary Policy Statement hit the AUD and key now is whether it can survive a test of support in the 0.7700-25 area. The RBA lowered its forecast for underlying CPI this year, adding that at their recent meeting they saw no reason to raise rates as the immediate outlook for CPI was fairly subdued. However, they did say that all incoming data would be monitored as some risks remained in place, notably from a tight labour market.

UK PPI data was slightly weaker than expected, with input prices down 2% m/m and core PPI output down to +2.3% y/y from +2.4% last time. Key events this week include tomorrow’s CPI data and Wednesday’s Inflation Report. There has been better news for the MPC on pay trends over the weekend. The FT reported that a survey from the Chartered Institute of Personnel and Development showed that 58% of employers expected annual rises to be less than 3.5% in the current wage round, while only 13% expected rises to be 4% or more. The latest report on pay settlements from EEF, the manufacturing employers' organisation, is also expected to show that few settlements have been in excess of 3.5%. 0.6680-0.6700 should remain as resistance on EUR-GBP until Wednesday unless there is a weaker surprise out of tomorrow’s CPI report. The money market is still looking for two more rate rises and this will be difficult to support unless there is continuing strength in the data. Cable has some near-term risk down towards the 1.9260-1.9320 area.

Data/event EDT Consensus*

JP Market Holiday
NZ PPI output (Q4) q/q 16.45 +0.7% last
JP Domestic CGPI (Jan) y/y 18.50 +2.4%
CN PPI (Jan) y/y 21.00 +3.0%

Latest data Actual Consensus*
GB PPI input (Jan) m/m -2.0% -0.8%
GB PPI output (Jan) m/m +0.3% +0.2%
GB PPI output core (Jan, nsa) y/y +2.3% +2.4%
GB DCLG house prices (Dec) y/y +9.9% +9.4% last
* 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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