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Wednesday June 13, 2007 - 10:40:29 GMT
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Forex Research - Mellon FX Daily - U.S. Edition

Mellon FX Daily 05:50 EDT

Key Points
• EUR-USD downside risk after closing below 100-day moving average for first time since October.
• US 10-yr yields hit five-year highs.
• UK average earnings subdued.
• US retail sales today’s main feature.

Market Outlook

Yesterday’s rise in US bond yields led to downward pressure in US equity markets, but the fallout in Asia was fairly modest. However, yields have continued to rise in Europe, placing some downward pressure on European indices.

US 10-yr yields started to slide about an hour after the results of the Treasury’s reopening of the 10-year auction and some comments from Greenspan about the global liquidity boom possibly being at a turning point. The auction outcome was not that bad (bid-cover 2.55 compared to the 2.59 average for other re-openings), while the indirect bid (foreign interest) took 10.9% of the stock. The latter was down from the 44.3% seen at last month’s refunding and was probably the main problem given the concerns about a possible reduction in demand for Treasuries from Asian central banks. However, foreigners are not usually keen participants in ‘re-openings’, with the average bid over the past two-years at 14% (compared to 38% for new issues). In this regard the results were not that bad and the price action was primarily a sign of fragile market sentiment. Key today will be whether this move in yields (to five year highs) is sustained. A rapid move back below 5.25% is needed to stabilise confidence.

Today’s US retail sales data will be significant for bonds and indeed for most other markets. Any strength would be doubly positive for the USD, not just from a pure interest rate perspective, but also due to the impact on positional appetites from any further rise in bond yields and global market instability. General short USD positioning would be the major casualty.

EUR-USD, is already under pressure following yesterday’s close below its 100-day moving average (1.3330) for the first time since October. 1.3260 (a pivotal level on the chart in Feb and Mar) may provide some support, but there is growing risk that 1.3100 will be seen if there is a further wave of liquidations. A rapid stabilisation in global markets is now required to bolster EUR-USD. Downside risk is in place while below 1.3330-40.

Today is also likely to see the release of the US Treasury’s semi-annual FX report, although while it is likely to be tough talking it is unlikely to name China as a currency manipulator. As recently as yesterday, Paulson made it clear that he was opposed to any efforts to legislate against China. The Senate will also introduce a bill today aimed at providing the Treasury with more powers to respond to China’s apparent malpractices, although Paulson is unlikely to use them.

UK average earnings data was weaker than expected this morning, meaning that each of the three main inflation indicators this week (PPI output, CPI and earnings) have all come out at or below consensus expectations. Market impact has been neutralised to a certain degree by the speech from King on Monday, when he outlined that the MPC was primarily focused on medium-term inflation indicators such as those provided in business surveys of price expectations (most of which remain elevated). However, at the very least, it is constructive that the inflation outlook has not deteriorated any further as a result of this week’s data, meaning that the market response will be more significant perhaps if other key indicators like retail sales and price expectations do show any weakness over coming months. Short-term momentum has moved against cable since the release of this morning’s numbers, although today’s US data and general EUR-USD reaction will also be significant.

Day Ahead
US – May retail sales data is the main feature in the US and this series has been holding in well over recent months. The April report was slightly soft, although this came after strong March figures, so when averaged out the performance has been robust. Some of the more recent confidence indicators have started to weaken, no doubt due to higher fuel prices, so it will be interesting to see whether there has been any negative impact on spending. Business sales and inventories data for April is also due and will be watched closely for any further evidence of recovery in the business sector. Business sales were strong in March at +1.5% and in combination with the 0.1% decline in inventories, suggested an improved environment that has also been supported by other evidence (ISMs, Fed surveys, durable orders). The Beige Book for the next FOMC meeting will also be released and is likely to note the improved conditions in the manufacturing sector and ongoing weakness in the housing market. Comments on pricing pressure will be watched closely.

New Zealand – retail sales is due tonight and could be significant now that the RBNZ has conducted three successive rate hikes. The focus will now switch to the impact such actions might have on the economy. However, the sales data is for April, so will only show the effect of the first hike on March 8. The second hike was not carried out until April 26. A weaker sales number would not be an enormous surprise after the strength seen over the past couple of months (Mar +1.3%, Feb +2.1% m/m).

Data/event EDT Consensus*

US Mortgage apps – purchases w/w 07.00 +1.5% last
CA Manu shipments (Apr) m/m 08.30 +0.7%
US Retail sales (May) m/m 08.30 +0.7%
US Retail sales ex-autos (May) m/m 08.30 +0.7%
US Import prices (May, nsa) y/y 08.30 +1.9% last
US Imp prices ex-petrol (May, nsa) y/y 08.30 +2.9% last
US Business inventories (Apr) m/m 10.00 +0.3%
US Business sales (Apr) m/m 10.00 +1.5% last
US US Treas semi-annual FX report
US Beige Book for Jun 27-28 FOMC 14.00
NZ Retail sales (Apr) m/m 18.45 0.0%
GB RICS house price balance (May) 19.30 25%

Latest data Actual Consensus*
JP Current account (Apr, sa) ¥2.3trn ¥1.95trn
AU Consumer sentiment (Jun) m/m -2.0% +7.5% last
AU New home sales (Apr) m/m +7.1% 0.0% last
CN Retail sales (May) y/y +15.9% +15.3%
JP Ind prod (Apr, final) m/m -0.2% -0.1%
FR CPI (May, prel) y/y +1.1% +1.1%
ES CPI (May) y/y +2.3% +2.4%
SE Ind prod (Apr) m/m -1.6% +0.5%
GB Claimant count (May) -9.3k -8.4k
GB ILO unemp 3m ave (Apr) m/m -15k +13k last
GB LFS employm’t 3m ave (Apr) m/m -10k -55k last
GB Average earnings (Apr) 3m y/y +4.0% +4.4%
GB Earnings ex-bonuses (Apr) 3m y/y +3.6% +3.7%
* Consensus unless stated

©2007, 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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AA JP- Bank of Japan
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