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Morning Adviser Americas 10/4/2010 10:53:00 AM

Euro Less Lofty

By Manuel Oliveri

Concerning press articles about peripheral Europe, together with weaker risk sentiment, has weighed on the euro Monday. EURUSD traded 1.3666-1.3806 and USDJPY 83.18-83.79. Most European equity market indices are trading in the red, with the Eurostoxx50 down by 1.20% at the time of writing. The US today reports August pending homes sales and factory orders. Fed Chairman Bernanke speaks twice from Rhode Island, first to college students and then on fiscal sustainability.

Research Spotlight "Currency Wars: The Sequel" UBS G10 FX Strategy

Fragile growth and large imbalances have raised the lure of currency depreciation. Expect unilateral interventions to continue and the US to keep to a policy of benign dollar neglect versus the euro and yen while seeking faster yuan appreciation. The Eurozone and Switzerland will eventually balk at rising currencies but the UK may first embrace pound weakness by renewing QE. Australia will tolerate a strong exchange rate, unlike Canada and New Zealand. Please see the "Currency Wars: The Sequel" note on www.ubs.com/fx for details.

EUR, CHF Targets: EURUSD 1m 1.35, 3m 1.25 / EURCHF 1m 1.30. 3m 1.28

China's Premier Wen said China supports a stable euro and will not reduce its holdings of European bonds. He also offered to increase holdings of Greek debt when Greece returns to debt markets in search of funding. Wen continues his visit to Europe this week to propose what Xinhua call "practical actions" to help solve Europe's continuing woes. The three countries on his itinerary, Greece, Italy and Belgium, are the most indebted in the Eurozone.

ECB Governing Council Member Draghi struck a hawkish note, observing that many banks have a "serious exposure" to the risk of a sudden rise in interest rates. Referring to the ECB's unconventional measures, he said that their withdrawal should be timed so as not to sow the seeds of future crises by leaving too much liquidity in the system. Like some of his ECB colleagues, he noted that some banks remain addicted to ECB funding but that this issue should be addressed by national authorities, and not the central bank.

According to the Irish central bank risks to the ECB staff growth forecasts are slightly tilted to the downside. In addition global economic uncertainty is regarded to have increased.

According to a press report a major Austrian bank is looking to change existing CHF loans into EUR loans, which, if it triggers a trend, would provide the franc with structural support.

We expect EURUSD upside to become increasingly limited again by structural weakness in the periphery. We also remain cautious on risk sentiment, as a sudden return of risk aversion cannot be excluded in an environment of heightened global economic uncertainty. A renewed round of Fed quantitative easing is now broadly expected. Should the Fed decide on a less aggressive but more easy to steer and adjust QE approach this may already come as a major disappointment. Last but not least our economists still expect no QE for this year.

We expect EURUSD to approach 1.28 in the medium-term again.

JPY Targets: USDJPY 1m 85, 3m 85

The BoJ's latest policy meeting gets underway today, with a decision expected on Tuesday. The local press reports that the policy board is close to taking further easing steps. Possible measures reportedly include an expansion of the scale of fixed-rate liquidity operations from ?30 trn to ?40 trn, combined with a maturity extension from 6 months to "around one year". An increase in the monthly intake of JGBs is also reportedly under consideration, along with the purchase of private sector assets and further "yen-selling operations".

On Friday, a Japanese government official indicated that the MoF would seek to impress upon the BoJ that any future interventions should remain unsterilized. The local press also reported that the T-bill issuance calendar for October, published on Friday, shows that the MoF does not plan to issue financing bills this month to repay funds borrowed from the BoJ to fund the recent intervention operations. Any such issuance would have absorbed the excess yen liquidity the BoJ injected through its yen selling operations.

GBP Targets: GBPUSD 1m 1.59, 3m 1.47

At 53.8 (cons. 51.4, prev. 52.1) the construction PMI for September was released above expectations. However, the sectors' confidence abut prospective growth conditions fell to the lowest level in nearly two years.

Our UK economist has pushed back his BoE rate call by six months, and now sees the first hike coming in Q3 2011. He also lowered the end-2011 policy rate forecast to 1.0% from 2.0%.

FX Technicals

EURUSD BULLISH Bull pressure held below 1.3896 ahead of 1.4194. Near-term support comes in at 1.3619 ahead of 1.3381 USDJPY BEARISH Focus is back on the downside; break of 82.88 would expose 79.75. Resistance remains at 84.50 ahead of 85.40. GBPUSD BULLISH Move above 1.5999 and 1.6069 would favor extension of bullish trend towards 1.6458. Support at 1.5670 ahead of 1.5503 USDCHF BEARISH Bearish pressure held at 1.9709 ahead of 0.9625. Resistance at 0.9918 breakout low. AUDUSD BULLISH The pair is expected to target 0.9850 with scope for 1.000 psychological resistance next. Support is at 0.9559 ahead of 0.9463. USDCAD BEARISH Break below 1.0192 opens up the way towards 1.0108 and 0.9931 next. Resistance comes in at 1.0380 EURCHF BULLISH Pullback from 1.3467 targets 1.3165 ahead of 1.2991. But overall trend is bullish with next resistance lying at 1.3651 EURGBP BULLISH Violation of 0.8736 exposes 0.8808 next. Support holds at 0.8659 ahead of 0.8563 EURJPY BULLISH Clears 114.74; expect gains to extend towards 116.68 and 119.33 next. Near-term support comes in at 113.76 ahead of 112.67.