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Calling the risk of inflation "significant" ECB President Jean-Claude Trichet's hawkish comments helped rally the EURUSD on Monday. Inflation in the Euro Zone has increased recently due to higher energy and food prices.

Speaking before a meeting of central bankers from the Group of 10 industrialized nations, Trichet stated, "inflation risks are significant." He also noted that current inflationary conditions are a concern and that there is "no time for complacency in any respect for central banks."

Trichet reiterated his stance against the risk of inflation adding to speculation that the European Central Bank will keep interest rates at a six-year high. Overnight, a rumor spread that the ECB was even prepared to raise rates. This rumor, however, was quickly ended when traders realized they had misinterpreted an ECB governor's statement.

Last week the main trend turned down on the EURUSD daily chart for the first time since late January. There was no heavy liquidation on this first sign of weakness, which usually is indicative of a potential retracement of the first leg down from the top. The current chart formation is set up for a minimum retracement back to 1.5690.

A retest of this area is necessary to see if the market is indeed topping out. Generally speaking, the first leg down from a major top takes out the weak longs, but the true sellers come in on the retracement. If this pattern is taking place, then be prepared to short at 1.560.

Further evidence that the Euro may be topping was revealed in the Weekly Commitment of Traders report, which showed a gain in net short for the first time since December 2005.

The EURUSD breaks down to this: The ECB is expected to leave interest rates at 4% at its next meeting on May 8. The market in the meantime, in consideration of the possibility of a rate hike, is likely to retrace back to 1.5690. This rebound rally will confirm the normal technical action, which takes place after a reversal top. Anchored by the change to net sellers shown in the Commitment of Traders report, new selling is likely to emerge at 1.5690. From a trader's perspective wait for the retracement, then look for a place to get short in anticipation of the next leg down which may take the market to 1.52 or lower.

High Commodity Prices Buoy Canadian Dollar.

In a repeat of what has become a common cycle lately, the USDCAD fell as commodity prices firmed. Strong rallies in copper, gold and crude oil helped drive the U.S. Dollar lower versus the Canadian Dollar. Commodities account for a major portion of the Canadian economy. An upswing in key energy and metals markets could help stabilize the Canadian Dollar while its economy gains footing. Currently the manufacturing sector of the economy is putting pressure on the Bank of Canada to keep lowering rates.

The conflicting nature of these two key fundamentals is keeping the market in a tight choppy range. It is hard to recommend a long-term position at this time because of these two factors. Traders have to be nimble enough to buy the USDCAD on weak commodity prices and weak Canadian economic news, but be ready to turn into a seller when crude oil, metals or wheat are exceptionally strong.

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