Following a sharp sell off for most of 2016, which accelerated after Brexit, GBP/JPY rallied in December thanks to the election of Donald Trump. In 2017, the pair has mostly traded in a range without any clear long-term trend. The exchange rate has repeatedly sold off on political risks (particularly relating to North Korea), while gaining when tensions subside.
The British pound is currently slightly higher against all major currencies except the euro and the Australian dollar. Yesterday, the pound ended the day down sharply against the US dollar. Yesterday's sell-off was accompanied by accelerating trading volumes in British pound futures, which were higher relative to both the previous session and 30-day averages. The combination of a sharp move lower and higher volumes suggest that traders sold the currency with conviction. Today's GBP/USD trading range is 1.2920 - 1.3260.
Thanks to a combination of slowing retail sales data, concerning Brexit headlines and pressure on the euro, the pound had plenty of reasons to weaken yesterday. Starting with the data, year-over-year retail sales growth slowed to 3% in September. The figures were disappointing as comparable retail sales at this point last year were slowing in rate-of-change terms. As consumption is a significant component of the U.K.'s economy, slowing retail sales have broader implications for economic growth in the third and fourth quarter of this year.
Turning to Brexit developments, the pound sold off sharply yesterday after Theresa May said that the EU's proposal on the border was unacceptable. May also suggested that she would be willing to extend the transition period "for a matter of months" in order to address ongoing differences. Earlier today, sterling ticked up following Michel Barnier's comments saying that a Brexit deal was 90% complete. Barnier did, however, suggest that the Irish backstop issue remains a significant roadblock. As trade negotiations remain volatile, Brexit-related news continues to have a significant impact on the pound in the short term.
Lastly, the pound is likely to remain under pressure thanks to slowing growth in the Eurozone. As described in today's euro daily update, Italian debt concerns continue to weigh on the common currency. Given the U.K.'s significant trading relationship with the Eurozone, the pound is closely correlated to the euro. Our outlook on the pound remains bearish.
GBP/USD is currently above 1.3050. EUR/GBP is up slightly, with the pair trading above 0.880. The pound is down against the Australian dollar and up against the Canadian dollar. GBP/AUD is currently above 1.8260, while GBP/CAD is above 1.7080.
|October 16||Claimant Count Change SEP||18.5K||14.2K|
|October 16||Unemployment Rate AUG||4%||4%|
|October 16||Average Earnings excl. Bonus AUG||3.1%||2.9%|
|October 16||Average Earnings incl. Bonus AUG||2.7%||2.6%|
|October 17||Core Inflation Rate YoY SEP||1.9%||2.1%|
|October 17||Inflation Rate YoY SEP||2.4%||2.7%|
|October 17||BoE FPC Minutes|
|October 18||Retail Sales ex Fuel YoY SEP||3.2%||3.6%|
|October 18||Retail Sales YoY SEP||3%||3.4%|
|October 19||Public Sector Net Borrowing SEP||£-3.26B||£-4.76B|
|October 19||BoE Gov Carney Speech|
The Japanese yen is currently weakening against all major currencies. Yesterday, the yen moved up sharply against the US dollar. Notably, trading volumes in yen futures accelerated for the third session in a row, rising above 30-day averages. The combination of continued strength in the yen and accelerating volumes suggest that traders bought the yen with conviction. Today's USD/JPY trading range is 111.50 - 114.50.
As riskier assets such as equities and commodities rebound today, the yen appears to be weakening accordingly. Following a significant move higher in Chinese equity markets this morning, most US equity indices and commodities are strengthening. The S&P 500 is currently up by 0.5% while WTI (crude oil) prices are up by more than 1%. As as a safe haven currency, the yen tends to weaken in response to improving risk appetite.
Turning to domestic economic data, year-over-year September inflation figures decelerated relative to the previous month. While domestic inflation was rising in late 2017, cost pressures appear to be running out of steam this year. Between a mixed outlook for growth and inflation that remains directionless, the Bank of Japan is less likely to signal tighter monetary policy in the near future. All else held equal, the continuation of the status quo is neutral for the yen.
Lastly, Japanese Finance Minister Aso said that the US did not consider the country to be a currency manipulator. According to a Reuters story, Aso also stated that Japan-US trade talks are likely to begin in mid-January. While Trump's attempts to re-negotiate international trade arrangements have weighed on currencies such as the Mexican peso and the Canadian dollar in recent history, the Japanese yen has been unscathed so far. Our outlook on the yen remains neutral.
USD/JPY is currently trading above 112.40. EUR/JPY is up slightly, and trading above 129.10. GBP/JPY is up slightly, and trading above 146.50.
|October 15||Reuters Tankan Index OCT||28||26|
|October 15||Capacity Utilization MoM AUG||2.2%||-0.6%|
|October 15||Industrial Production YoY Final AUG||0.2%||2.2%|
|October 18||Balance of Trade SEP||¥140B||¥-438B|
|October 18||Exports YoY SEP||-1.2%||6.6%|
|October 18||Foreign Bond Investment 13/OCT||¥1016.9B||¥-200.3B|
|October 18||Stock Investment by Foreigners 13/OCT||¥52.6B||¥1577.4B|
|October 18||Imports YoY SEP||7%||15.3%|
|October 19||Core Inflation Rate YoY SEP||1%||0.9%|
|October 19||Inflation Rate Ex-Food and Energy YoY SEP||0.4%||0.4%|
|October 19||Inflation Rate YoY SEP||1.2%||1.3%|
|October 19||BoJ Gov Kuroda Speech|
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Significance of the GBP/JPY pair
British pound to Japanese yen is one of the most popular currency pairs amongst speculators. This is because the pair is fairly volatile, traded in large quantities and tends to reflect global risk sentiment. Looking at the pound, the currency tends to appreciate during economic booms while selling off sharply during times of peril. Given the UK’s close economic relationship with the Eurozone, the currency also tends to track the fortunes of the euro. The United Kingdom is the world’s fifth-largest economy. Given the relatively low yield of the yen, the currency tends to depreciate when growth is strong as investors seek higher returns outside Japan. During downturns, the yen tends to appreciate sharply as yen-based investors sell international assets in exchange for the currency. Japan is the world’s third-largest economy (or fourth-largest if one counts the Eurozone as an economic region). As a pair, GBP/JPY tends to be volatile given the underlying characteristics of the yen and the pound. Relative GDP growth rates for the United Kingdom versus Japan are highlighted below:
2005 – mid-2007: The good times
Between 2005 and mid-2007, optimism for global growth was running high. European currencies including the euro and the British pound rallied sharply, while the yen broadly weakened. The yen was particularly weak as the currency was used as a funding currency for the carry trade. When speculators engage in the carry trade, they borrow a currency with low interest rates (such as the yen) and invest the proceeds in currencies that offer relatively higher interest rates (such as the British pound). Thus the yen weakened during this time while the pound strengthened. From around 190 at the start of 2005, GBP/JPY peaked right under 250 in July 2007.
Mid-2007 – mid-2008: Early jitters
Over the summer of 2007, currency speculators began buying back the yen as global GDP growth began trending down. Given that many carry traders employed significant leverage, gains in the yen were magnified as a result. Growing troubles in the US housing market were particularly worrisome, although most believed that troubles in the sector would be confined to the US. Nonetheless, the British pound began selling off given London’s significant exposure to the US banking sector. Between July 2007 and July 2007, GBP/JPY weakened down to 214.
Mid-2008 – mid-2009: The global financial crisis
By the summer of 2008, the domestic US housing crisis had transformed into a global financial crisis. By June 2008, many global currencies including the British pound, euro and the Australian dollar began selling off sharply. Currencies that gained during this time included the US dollar and the Japanese yen. As we wrote earlier, the upheaval in the foreign exchange market was caused by the global US dollar shortage. Prior to the crisis, international banks borrowed heavily in offshore US dollar (Eurodollar) lending markets. Once Eurodollar lenders began doubting the creditworthiness of borrowers, banks were unable to roll-over their US dollar liabilities. As fears grew, the foreign exchange market sensed panic and the US dollar rose sharply as a result.
Looking at GBP/JPY, the pair bottomed in January 2009 around 122. Following a bear market rally, the pair made a long term top around 162 in August 2009.
Mid-2009 – late-2012: The zero interest rate era
Prior to the financial crisis, the yen enjoyed a natural tailwind thanks to very low interest rates relative to major currencies. As described previously, this resulted in the yen being used as a funding currency in the carry trade. Following the crisis, many central banks reduced interest rates substantially (including the Bank of England). Thus interest rate differentials fell, strengthening the yen. Between late 2009 and late 2012, the yen strengthened against most major currencies.
While the Bank of Japan directly intervened in markets four times between 2010 and 2011, this had a limited impact on the GBP/JPY exchange rate. By October 2012, GBP/JPY was trading around 127.
Late 2012 - 2016: BoE and BoJ move in opposite directions
The year 2012 was a tough year for the Japanese economy and its exporters, and the ruling Democratic Party of Japan government was deeply unpopular. The party’s political fortunes worsened after proposing significant increases to consumption tax. Shinzo Abe, the candidate from the Liberal Democratic Party, campaigned on a platform of economic reform. He named his policies “Abenomics” (inspired by Ronald Reagan’s “Reaganomics”) and it contained three specific priorities. Firstly, he called for significant monetary easing. Secondly, he called for a fiscal stimulus package. Lastly, he called for deep economic reforms. As Abe’s popularity rose in the polls, the yen began weakening as a result.
Following his victory in December 2012, the yen began weakening sharply. The next driver for the yen was the appointment of Haruhiko Kuroda as governor of the Bank of Japan in early 2013. In the first Bank of Japan meeting following Kuroda’s appointment, he announced a significant change to the Bank’s policies. Instead of targeting interest rates directly, the BoJ was set to dramatically increase the size of asset buying program. Specifically, he targeted the purchase of Japanese government bonds, corporate bonds and equities. He further pledged the double the size of the Bank’s balance sheet by the end of 2014. By early 2014, GBP/JPY was trading above 170.
By late 2014, GBP/JPY was once again gaining due to yen weakness. This time, the sharp sell-off in global crude oil prices drove the yen down. While the Bank of England had hinted at rate hikes in 2014, the Bank of Japan was firmly committed to monetary easing. After peaking around 196 in June 2015, GBP/JPY ended the year around 170.
2016 – 2017: Brexit and back
Starting in late 2015, GBP/JPY began falling as the outlook for global GDP growth worsened. At the time, safe haven assets such as bonds and gold rallied. In the UK, markets were jittery as an upcoming Brexit referendum threatened the status quo. Prior to the Brexit vote in late June 2016, GBP/JPY traded around 160.
Following Brexit, the pound nosedived against the yen (and against most global currencies). As uncertainty clouded the outlook for British trading relations, the pound adjusted accordingly. Looking at GBP/JPY, the pair made a long-term bottom in October 2016 around 126. At this time, the Bank of Japan once again reverted to targeting interest rates (instead of the size of monetary easing). This time, Kuroda implemented a policy known as Yield Curve Control (YCC). Under YCC, 10-year Japanese government bond yields were fixed at 0% by the Bank’s traders. After the implementation of YCC, the yen became even more sensitive to interest rate differentials.
In November 2016, following the victory of Donald Trump in the US presidential elections, global bond yields rose sharply as markets priced in faster growth and inflation. In response, the yen weakened as Japanese yields were fixed at 0%. GBP/JPY ended 2016 around 144.
In 2017, the yen strengthened at a slow pace while the pound bounced back thanks to improving optimism regarding the Brexit negotiations. At times, we wrote that optimism in the British pound was approaching extremes. On the other hand, yen strength remained at bay thanks to weak guidance from the Bank of Japan. GBP/JPY ended the year around 152.