FX Update: Two-way action in JPY, Fed still behind the market.

FX Trading focus: Some two-way action in JPY after BoJ comments. End of quarter ahead.

We finally saw a bit of two-way action in JPY crosses overnight after the brutal run lower in the Japanese yen over the last two weeks or so. Bank of Japan Governor Kuroda was out speaking with quite a mish-mash of comments. The preliminary March Tokyo CPI sees a similar pattern from the nation-wide February CPI numbers: a new high in the headline CPI, but with core mired near the lowest levels in a decade (-0.4% year-on-year versus -0.5% expected and -0.6% in Feb.). In Kuroda’s comments, there were no signs of him climbing down from the Bank of Japan’s policy stance and he even took the trouble to argue that a weaker Japanese yen is still supportive for the Japanese economy, arguing that inflation will be what prompts a change of policy and not the yen. And his view is that cost-push inflation like that seen currently won’t provide stable inflation of 2% over time and in fact harm the economy via a drop in disposable household incomes and corporate margins. Still, the Governor did say that the Bank of Japan is watching the currency closely, whatever that means, while the more credible Ministry of Finance (in terms of driving the actual currency interventions of the past, sometimes monumental ones) said overnight that disorderly FX moves are not desirable.

Albert Edwards, a strategist with Société Générale, put out a piece yesterday suggesting high risk of a further aggravated weakening of the yen if a carry trade develops as Japanese traders pile into foreign currencies and bonds while the Bank of Japan caps yields. This dynamic is certainly the risk as long as the Bank of Japan keeps its cap on 10-year JGB’s at 0.25% (these hit 0.24% overnight) and yields continue to rise elsewhere. Edwards also importantly points out that the widening gap between the real-effective value of the yen, currently at a modern low, with the very strong Chinese renminbi, suggesting a mounting pres. Last time, China had the luxury to “devalue” as it wanted to avoid tracking the US dollar’s further aggravated rise and because that very rise had crushed global commodity prices, particularly oil. That does not look at all like the current backdrop – but the situation looks very tense, nonetheless.

Chart: USDJPY
The USDJPY rally extension yesterday outran the latest move in US 10-year yields yesterday, which peaked very late in the day on Tuesday in the US before trading sideways, although we have seen a general extension higher in global risk sentiment coming into today, and easing financial conditions, both of which are wind at carry traders’ backs. The BoJ and Japanese Ministry of Finance comments overnight finally saw a dose of two-way volatility. And as we discussed on today’s Saxo Market Call podcast this morning, we are barreling into quarter-end (and Japanese financial year end) next Thursday after a particularly brutal quarter for bonds, which could bring some mechanical portfolio rebalancing that brings a bit of support for bonds and therefore possibly for the yen in the near term. But if the direction of bond yields remains higher whether now or beyond a quarter-end dip, the cycle top in JPY crosses may lie far ahead and possibly dramatically so if a significant cohort of traders pile into a new carry trade investment theme (as noted above), even if it is unsustainable in the long run. The next milestone is the almost 20-year high just shy of 126.00.