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Monday May 14, 2007 - 10:55:29 GMT
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Forex Research - Mellon FX Daily - U.S. Edition

Mellon FX Daily 06:25 EDT

Key Points
• Friday saw some potentially significant price action in global markets.
• EUR-USD holds on to the gains seen on Friday, but positional backdrop remains challenging and downside is favoured.
• Tone of this week’s US data will be critical.
• NZD boosted by strong retail sales data.
• UK PPI data weaker than expected.

Market Outlook

An odd day on Friday, with initial weakness in high risk, high yielding assets and strength in the CHF and the JPY being firmly rejected. News out of China about a relaxation of controls on how much Chinese entities can invest in foreign markets led to many headlines about a wall of money about to hit foreign markets and this contributed to the market rebound. Such outflows are not likely to happen overnight and could be quite limited initially, but the news follows recent noises out of China that their new FX reserve investment agency will be up and running by the end of the year and could conceivably handle $200bn worth of funds. It would seem that the global liquidity machine will keep on running for some time yet and this can only mean one thing – higher global interest rates.

Key now is whether there is any follow-through to Friday’s price action and in terms of general JPY sentiment whether or not EUR-JPY can advance beyond 163.05 will be significant. As long as it stays below that level, corrective downside risk will remain in place and this is favoured for now. The tone of this week’s Japanese data could also have a bearing on how this plays out.

EUR-USD has managed to hold on to the gains seen on Friday, although resistance at 1.3565 and 1.3590 needs to break to suggest the introduction of an upside bias in the near-term. However, this could be difficult in the short-term with the latest IMM data still suggesting a challenging positional backdrop for EUR-USD. As of last Tuesday net EUR-USD longs for spec accounts stood at 105,270 contracts, only modestly down from the 106,688 seen the previous week. US data will again be key this week, with housing data and the Fed surveys the main features. The latter will be especially significant in terms of whether they offer support to the picture painted by the recent stronger ISM number. Downside remains favoured on EURUSD.

UK PPI output data was much weaker than expected, offering a potential source of comfort to the MPC about the outlook for CPI. The y/y rate on core output prices had been rising in recent months, moving close to multi-year highs and evidence from a variety of business surveys has also suggested upward pressure on prices, although the latest CBI price balance had slipped back to a four month low. Today’s data showed a downward revision to the Mar y/y rate to +2.8% from +2.9%, while the Apr y/y rate eased to +2.4% - the lowest since September. Of course, this is just one month’s worth of data, but it is a step in the right direction. CPI data is due tomorrow and until that time resistance on EUR-GBP at 0.6846-50 should hold. However, there is a real danger that Wednesday’s Inflation Report will fail to add to the hawkish view already well embraced by the UK money market, so some element of upside risk is now in place on EUR-GBP for later this week.

Another big increase in NZ retail sales (+1.3% m/m in Mar after +2.1% in Feb), but a source of comfort for the RBNZ is that it is still too early to gauge the consumer’s reaction to the two rate hikes conducted on Mar 8 and Apr 25. However, if there is no sign of a cooling in this data over the next couple of months the RBNZ may be tempted to take further steps to rein in such exuberance. The NZD rallied on the news but a move above 0.7405 is needed to suggest a fresh test of the recent highs just below 0.7500 and this could prove difficult in the short-term.

Day Ahead
Japan – machinery orders are due tonight and while Q1 GDP will be the most closely watched measure of this week, the trend in the orders data is significant for sentiment about the Japanese economy. Machinery orders have been largely treading water for the past six months or so.

Data/event EDT Consensus*

US Fed’s Fisher on service sector 16.00
GB RICS house prices (Apr) 19.30 +24%
JP Machinery orders core (Mar) m/m 00.00 +1.5%

Latest data Actual Consensus*
NZ Retail sales (Mar) m/m +1.3% -0.2%
JP Domestic CGPI (Apr) y/y +2.2% +1.8%
JP Dom CGPI – final goods (Apr) y/y -0.1% -0.4%R last
JP Current account (Mar, sa) ¥2.4trn ¥2.1trn
AU Housing finance (Mar) m/m +1.3% +1.5%
CN CPI (Apr) y/y +3.0% +3.1%
ES GDP (Q1) q/q +1.0% +1.0%
GB PPI input (Apr) m/m +0.7% +1.0%
GB PPI output (Apr) m/m +0.5% +0.5%
GB PPI output core (Apr) y/y +2.4% +2.7%
GB DCLG house prices (Mar) y/y +10.9% +12.0%
EU Ind prod (Mar) m/m +0.4% +0.3%
* 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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