Head of FX Strategy
Summary: The Bank of Japan refused to capitulate overnight as it doubled down on its yield curve control policy and announced unlimited daily auctions to enforce its yield-curve-control policy. This set the JPY on tilt again, with USDJPY rushing well above 130.00 overnight in the wake of the meeting. USDCNH also moved in in response, helping the USD sharply higher. Elsewhere, the Riksbank moved in the opposite direction, hiking rates 25 basis points and sharply raising its rate forecast, driving a strong boost to SEK.
FX Trading focus: Bank of Japan puts JPY back on tilt, Riksbank lights fire under SEK
Going into the BoJ overnight, my expectation bias was that the Bank of Japan would have to loosen up its forward guidance in some meaningful way, even if very cautiously so. Kuroda and company could have taken the opportunity, for example, to indicate a two-way policy potential: on the one hand suggesting that for now it expects inflation will prove transitory and that it is happy with its current policy mix, but that if global yields continue to rise at anything resembling the recent pace and inflation – for cost of living expenses, particularly those driven by a weaker JPY – it may have to adjust its yield-curve-control policy in future meetings. The government’s recent fiscal package aimed at offsetting cost-of-living increases for vulnerable households is a clue that the weak JPY is weighing politically ahead of important lower house election in July. Instead, the BoJ meeting overnight saw Kuroda and company doubling down on the current policy mix and even announcing daily auctions with unlimited backing of the 0.25% 10-year yield cap.
Ironically, if global yields stagnate here and we avoid any new drama in energy prices, the pressure on the JPY could subside rather quickly, as the big devaluation story needs fresh fuel and a rise in yields elsewhere if the JPY is to remain under significant further pressure. The Japanese Ministry of Finance was out tempering the JPY decline with some sharp comments early today in Europe, but intervention would be silly and even more politically toxic perhaps than the MoF getting on the phone with Kuroda and twisting his arm to loosen up monetary policy guidance. Either way, Japan absorbs the pressure – whether it is on the currency and inflation of imported goods or via a rise in yields.
Elsewhere, the USD pressure on global liquidity continues to ratchet higher and higher, with the USDJPY move overnight helping to jolt USDCNH and USD/everything-else higher as well. Some bit of relief on that front in early European trading today, but that is quickly being erased as I am writing this (GBPUSD even hitting new lows). The USD strength is rapidly on its way to becoming an emergency for global liquidity if this move extends much longer. The April price bar for EURUSD, GBPUSD, AUDUSD etc. shows the powerful momentum that has developed and the Fed is in no mood to help, with domestic inflation considerations first and foremost in its sights. This may end in coordinated intervention at some point if the Fed doesn’t blink at next Wednesday’s FOMC meeting.
Chart: USDJPY
USDJPY exploded all the way through the 130.00 level and to 131.00 on the Bank of Japan refusing to change its policy mix at a time when virtually all other central banks are in a strong tightening regime, with USD liquidity concerns adding further energy to the fresh surge overnight. The natural focus is on the early 2000’s high above 135.00, but there is nothing holding the pair back from a surge to 150.00 or higher if US 10-year Treasury yields continue to rise and take out the 2018 high of 3.25%. The situation becomes increasingly dangerous if the pressure ratchets higher to the upside, as an eventual capitulation from the BoJ would come at an even loftier level and trigger that much large of an avalanche of mean reversion. Helmets on!
Riksbank crystallizes recent massive shift higher in Swedish yields. The early February Riksbank meeting saw the central bank hanging on to the idea that it would not achieve rate lift-off until 2024. But the Russian invasion of Ukraine and spiking inflation have given Ingves and company religion, and here we are slightly more than two months later with a rate hike and forecasts from the Riksbank for two to three more this year, with a policy rate forecast of “somewhat below 2% in three years’ time”. As well, the bank is set to begin shrinking its balance sheet in the second half of this year, with a stop in bill purchases as of today. This was even more than the market was looking for, and 2-year Swedish yields surged 8 basis points and managed a new cycle high today – this on top of the earthquake-like repricing of rates over the last two months. With a bounce in risk sentiment late yesterday, this helped EURSEK reprice all the way back to 10.25 in the wake of the decision and interesting to see if the pair can fully take out the 200-day moving average around the 10.28 level this time, as well as the range lows near 10.22. With the Riksbank going a lot farther in buying credibility than the ECB, the pair deserves a drop to at least 10.00, if only risk sentiment and global liquidity concerns weren’t such a restraint on SEK strength. And as I am writing this, EURSEK is backing up very aggressively from the lows…liquidity is so important across markets at the moment.
Table: FX Board of G10 and CNH trend evolution and strength.
I still think that sterling is not seeing the kind of pressure it deserves with this backdrop – somehow outperforming the euro over the last couple of sessions, though signs of new weakness today. As I noted earlier this week on NOK risks – the move above 9.20 in USDNOK has unleashed a chunky move higher and more NOK weakness broadly.
Table: FX Board Trend Scoreboard for individual pairs.
Watching the EURGBP pair as noted above for potential follow through higher. Look at the USDNOK weekly bar and monthly bars for USD pairs in general….
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Markets are driven by election optimism, overshadowing growing debt and liquidity concerns. The 2024 elections loom large, but economic fundamentals and debt issues warrant cautious investment.
As US economic slowdown hints at a shift away from exceptionalism, USD faces downside with looming Fed cuts. AUD and NZD set to outperform as their rate cuts lag. JPY gains on carry unwind bets and BOJ pivot.
Amid AI and obesity drug excitement, equities see varied prospects: neutral on overvalued US stocks, negative on Japan due to JPY risks, positive on Europe. European defence stocks gain appeal.
With the economic slowdown, quality assets will gain favour, especially sovereign bonds up to 5 years. Central banks' potential rate cuts in Q2 suggest extending duration, despite policy and inflation concerns.
Commodities poised for rebound. The "Year of the Metal" boosts gold and silver, copper awaits rate cuts. Grains may recover, natural gas stabilises. Gold targets $2,300-$2,500/oz, copper's breakout could signal growth.
