The Japanese yen is the third-most traded currency in the world, according to a recent survey by the Bank for International Settlements. Specifically, the currency is involved in 11% of all foreign exchange trading. The yen is also unique as it is considered a safe haven asset - the currency strengthens during times of peril and weakens during strong economic booms.
The Japanese yen is mostly lower today, and is selling off against all major currencies except the Australian dollar and the euro. Yesterday, the currency weakened alongside rising bond yields. Looking at USD/JPY, the pair managed to close higher despite overall weakness in the US dollar and a significant sell-off in the S&P 500 during US trading hours. While USD/JPY tends to track risk sentiment, the yen has become more sensitive to bond yields in recent times.
With limited news headlines and developments from Japan, the yen is mostly trading as a function of bond yields. As Japanese 10-year bond yields are fixed around 0% by the Bank of Japan, the difference between US and Japanese yields is just under 3% (as US 10-year bonds are currently yielding around 3%). While higher US yields have failed to weaken the yen in the past, interest rates have been driving currency markets since late March. As we have written before, this is because slowing global growth is reducing optimism for riskier investments. In the past, investors ignored rising US yields and chased investments such as technology and emerging market stocks. Today, rising US bond yields are hurting asset values as global growth decelerates. Our short-term outlook on the yen is bearish, while our medium-term outlook is neutral.
USD/JPY is currently trading above 109.20. EUR/JPY is currently up slightly and trading above 133.20.
Looking at Japanese economic data and events this week, the Bank of Japan’s upcoming meeting will be watched closely. The March Nikkei manufacturing PMI (53.3 vs. 52.6 expected) was ahead of expectations. The leading economic index for February (106 vs. 105.8 expected) was ahead of expectations. The All Industry Activity Index for February (0.4%) met expectations. Tomorrow, we’ll see foreign investment in Japanese equities and Japanese investment in foreign bonds. On Friday, the most important day, we’ll get the latest interest rate decision from the Bank of Japan, its outlook report and a press conference. We’ll also see the Tokyo consumer price index for April, the unemployment rate for March and March household spending. Finally, we’ll get March industrial production, and March retail sales, and March housing starts.
As the yen runs out of steam, we are now bearish on the yen in the short-term. Note that the currency is trading within a normal range, based on technical indicators on the daily chart.
As the yen trades sideways, we are now neutral on the yen. Looking at the yen on a weekly chart, the currency is trading within normal conditions. This is based on various technical indicators when looking at a weekly chart.
Policy: The Bank of Japan's monetary policies remain fairly loose, and 'yield curve control' (holding 10-year Japanese government bond yields at 0% through buying and selling bonds) remains in place. In recent history, the BoJ stopped buying long-dated government bonds, which has been interpreted by markets as a hawkish shift in policy. In our view, the BoJ remains among the most dovish central banks, and a hawkish shift is unlikely in the near-term. Looking at fiscal policy, the re-election of Abe is likely to result in additional fiscal stimulus over his term. Prior to the elections last October, he promised a substantial fiscal stimulus program focused on child care and education.
Sentiment: Looking at the Commitments of Traders Report, speculators remain short the Japanese yen. Thanks to strong global growth, speculators believe that the yen is likely to remain weak as the economic environment remains "risk on". When sentiment approaches bearish extremes, the Japanese yen tends to rebound in response. If global bond yields fall in 2018 (as a result of weakening inflation), there is a risk that the yen begins strengthening.
Economic data: The Japanese economy has registered surprisingly good rates of growth since the end of 2016. Annualized growth rates have increased from 1.6% in Q4 2016 to 2%+ thanks to a rebound in global growth as well as a fiscal stimulus program enacted in October 2016. Unfortunately, the country remains susceptible to deflation, with annualized inflation figures remaining substantially under the BoJ's 2% target since 2015. Thus the impact from growth and inflation is mixed.
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