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Morning Adviser Asia 9/27/2010 9:03:00 PM

Fed Focus Persists

By Brian Kim

Eurozone concerns resurfaced on the back of a debt downgrade of an Irish financial institution but currency moves were largely quiet until a Wall Street Journal article after the equity close gave the dollar a slight boost. The article suggested that any further quantitative easing by the Fed could be less heavy-handed than expected as officials continue to monitor the data as they weigh their next move. But it did not necessarily dissuade the notion that more easing is possible. Our US economists now think the fed funds target will not be hiked until Q3 2011, at least three months later than their original June 2011 forecast. In the aftermath of the latest FOMC decision, our economists do not think further quantitative easing will be necessary but they do acknowledge it is now a much closer call. We therefore lowered our one and three month dollar forecasts to reflect the increased risk of further potential Fed action. There were no major headline US data releases and investor risk-seeking was muted with equities modestly lower and lower Treasury yields across the curve, which was partially spurred by a good 2-yr auction. But among G10 currencies the Australian dollar managed to gain versus the dollar as the relative monetary policy differential remains in Australia's favour. Upcoming data releases include Conference Board Consumer Confidence, S&P/CaseShiller home price data and the Richmond Fed manufacturing survey. EURUSD traded 1.3426-1.3506, USDJPY 84.12-84.39.

EUR Targets: EURUSD 1m 1.35, 3m 1.25 A downgrade of the subordinated debt of a prominent Irish bank highlighted widespread fears surrounding the Irish banking sector and the prospect of future downgrades remain. The FT reported that further updates on the situation would likely come on Thursday but it underscores the fact that sovereign and fiscal concerns remain unresolved and sovereign yields remain elevated. ECB President Trichet's comments at the Quarterly Hearing before the Committee on Economic and Monetary Affairs of the European Parliament largely echoed his recent comments as he reiterated again that inflation should moderate over the policy-relevant horizon despite a potential short-term increase. Trichet remains cautious on Eurozone growth and said current policy is accommodative and the current level of interest rates is appropriate.

JPY Targets: USDJPY 1m 85, 3m 85 BoJ Governor Shirakawa said the BoJ will take "timely and appropriate action on monetary policy as needed". Shirakawa also opened the door to potential intervention in non-USD crosses when he said "the yen has appreciated not only against the US dollar and the euro, but also against fellow East Asian currencies: for example, it has traded at levels close to its record high against the Korean won". Such intervention has not happened since 2000. Shirakawa also warned that if a central bank's purchases of government bonds is seen as a means of paying for fiscal expenditure, or as an act of debt monetisation, inflation expectations and government bond yields would rise. While a modest increase in inflation expectations may not be a bad thing as far as the Japanese economy is concerned, rising bond yields could lead to a substantial increase in the cost of servicing Japan's public debt. Japanese exports rose by less than expected to +15.8% y/y (cons. +19.0%) while imports came in slightly ahead of expectations. This slowdown in export growth adds more weight to BOJ's intervention policy as it highlights the negative effects that the stronger yen is having on the real economy.

GBP Targets: GBPUSD 1m 1.59, 3m 1.47 Final Q2 GDP is due after the preliminary print slightly exceeded expectations at 1.2% q/q and 1.7% y/y. Consensus estimates are for no change. The IMF endorsed the UK's fiscal tightening plans as it greatly reduces the risk of a loss of confidence. The IMF noted that things were on the mend but also stressed that monetary policy will have to be nimble in the event of further downside risks. The October 20 fiscal austerity measures could point to further BoE easing, which policymakers hinted at in the latest BoE minutes. We adjusted our GBPUSD forecasts to reflect the shift in our dollar view but think fiscal austerity could keep the pound weak versus the Swiss franc and the Nordic currencies.

FX Technicals EURUSD stalled at 1.3511 EURUSD BULLISH Stalled in front of 1.3511; a break here would expose 1.3692. Near-term support comes in at 1.3426 ahead of 1.3287 USDJPY NEUTRAL 85.93 and 82.88 have now become the key near-term directional triggers. GBPUSD BULLISH After the break of 1.5729, expect gains to extend towards 1.5999 key high. Support is defined at 1.5642 ahead of 1.5503 USDCHF BEARISH Following the break of 0.9786, there is scope for next support at 0.9625. Resistance at 0.9983 ahead of 1.0183. AUDUSD BULLISH Violation of 0.9600, psychological level, favours another bullish run towards 0.9850 key high. Near-term support is at 0.9442 ahead of 0.9309 USDCAD BEARISH Focus is back on 1.0108; break of the level would expose 0.9931. Near-term resistance holds at 1.0380 EURCHF NEUTRAL Trading within 1.3391 and 1.2991 range. Break below 1.2991 would expose 1.2766 key low. EURGBP BULLISH Upside potential held below 0.8609 ahead of 0.8774. Support defined at 0.8463 ahead of 0.8390 EURJPY BULLISH While support at 110.66 holds, expect the cross to target 114.74, ahead of 116.68 and 119.33. *NOTE: The trend for each currency pair as defined in the table is determined by our proprietary model and is independent of our discretionary interpretation of price action