Let’s talk currencies because it’s Friday and there doesn’t seem to be much else to talk about (it’s the whole summer doldrums thing).
Have a look at the yen and the yield on 10-year Japanese debt:
So the yen’s trading at 100 and is on a tear against the dollar. It hit 99.84 at one point on Friday and 99.62 on Thursday. By now, you’re probably acutely aware of why this matters. The whole idea behind the Bank of Japan’s efforts to push the limits of unconventional policy is to weaken the yen in the process boosting the country’s exporters and dragging the nation out of deflation.
Well, the market is now so incredulous that it’s trading the opposite direction of the way it should given the mishmash of unconventional policies pursued by the BoJ. Indeed, the Japanese market seems to have started a trend as evidenced by what happened to New Zealand and Australia after recent rate cuts. We’re going to show this chart again, because we think it’s particularly telling in terms of central banker credibility:
As for the Japanese economy, well, the surging yen just sent exports tumbling 14% in July, the worst decline since the financial crisis:
(Chart: Deutsche Bank)
And here’s where we get back into the whole Einsteinian insanity trap. The only thing the BoJ knows to do to stem yen strength is cut rates or expand asset purchases, but that strategy has backfired in spectacular fashion since the start of the year. Of course if they don’t cut or otherwise ease the yen will rise too. It’s a lose-lose. Here’s some desk commentary (via Bloomberg):
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MassMutual Life Insurance (Satoshi Shimamura, head of rates and markets at investment strategy department)
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BOJ’s comprehensive policy review in Sept. is more likely to ensure continuation of the current policy and coordination with the govt considering the weak stocks, stronger yen and rising bond issuance
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The appreciation pressure on yen amid the dollar weakness will support the bond market
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Barclays (Naoya Oshikubo, rates strategist)
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Concern has eased that BOJ will scale back easing
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It looks as though BOJ won’t be able to avoid expanding stimulus including a rate cut as yen continues to rise
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Consider the following bit from Deutsche:
“We do not expect the USD/JPY to hold at the 100 level for an extended period because US economic activity lacks momentum and Japanese hedgers are behind in USD selling. We do not think BoJ policy is capable of providing a sustained lift to the USD/JPY unless improved US economic activity fuels expectations for multiple policy rate hikes while the USD/JPY's median level remains above 100. Our official USD/JPY forecasts are 97 at end-September and 94 at end-December.”
“Japanese stocks tend to decline when the USD/JPY depreciates. During the Abe market, Japanese companies raised profits by 30% or 40%, versus sales gains at just a few percentage points, and yen depreciation explained about half of the profit advances. We expect larger declines in corporate profit now that the cycle has changed to yen appreciation. We anticipate significant pain for Japanese companies and the Japanese economy in a coming few years because of the drop. However, we are not seriously pessimistic about Japan's prospects.”
You have to love how the Street can deliver these rather dire sounding assessments only to conclude that everything should be fine.
Well for Japan, everything is probably not going to be fine. They’re eventually going to have to intervene directly in FX markets to stop the yen appreciation, otherwise you’re talking about severe economic deterioration. Helicopter money may help, but that’s going to take some time to flow through to the USDJPY cross which needs to start appreciating like, yesterday.
Meanwhile, the policy divergence between the US and Europe/Japan means any dollar weakness is likely to be fleeting. Here’s what Goldman had to say earlier today:
“Investor sentiment has swung sharply against the Dollar and many are fearful that the Fed could engineer a painful squeeze, with USD selling off sharply. We think this vastly overstates the power of the Fed. To be sure, the Fed since March 2015 prevented – through repeated dovish shifts – the Dollar from moving higher. But the Fed has few tools to make USD go down from here, by which we mean a reversal of the 15 percent rise in the second half of 2014. Such a reversal is of course possible, but it would require the ECB and BoJ to wind back their monetary stimulus programs, which we think is highly unlikely. In fact, we think both central banks are more likely to add further stimulus. Or it would require a shift from the Fed back into outright easing, which is again highly unlikely.”
(Chart: Goldman)
Stay tuned for Jackson Hole and of course, look out for black swans in September.
(Table: SocGen)
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