Head of FX Strategy
Summary: The perfectly in-line December US CPI data left the market grasping at straws and eventually saw treasuries and sentiment rallying as the US dollar sold off, with the Japanese yen leading the charge on the risk for further tweaks at next Wednesday’s BoJ meeting. The market took the 10-year yield well above the 0.50% band limit overnight in anticipation of a further widening, doubling down on the upside pressure on the JPY as yields ease elsewhere.
Today's Saxo Market Call podcast.
Today's Market Quick Take from the Saxo Strategy Team
FX Trading focus: BoJ meeting next Wednesday looming large as US CPI focus fades
Yesterday’s December US CPI release and the subsequent market reaction suggests to me that the focus on the chief US inflation data points is likely set to ease on a month-to-month basis. The data was perfectly in-line with consensus expectations for a solid drop on the year-on-year headline and core to 6.5%/5.7%, respectively. And as we discussed on this morning’s Saxo Market Call podcast, it is no secret that the heaviest portion of the core inflation data point is the infamous Owners Equivalent Rent (OER), which has a 32% weighting and is notoriously lagging. Some private measures of rental inflation are already showing month-on-month declines and the year-on-year rises have approximately halved, while the OER data just posted a new high for the cycle in December.
This is not to say that inflation will no longer be in focus, but if it is to crop up as a significant concern again, it will more likely be on signs of aggravated rises in earnings, a reheating services sector, a new spike in energy prices, etc., all of which are in varying degrees of abeyance now. In other words, the incoming data still very important, but the focus will be far more diffuse. The upcoming earnings season, for example, will provide some interesting inputs as companies comment on Q4 trends and set their expectations for the coming quarter.
The strongest currency move yesterday was the rally in the Japanese yen, something that was set in motion ahead of the US CPI release by developments in Japan yesterday. Press reports that the Bank of Japan is set for further policy tweaks, a BoJ survey that upgraded the outlook for several regions in Japan and mentioned wage gains, and a preliminary report from the Ministry of Finance that December saw record selling of foreign bonds by Japanese life insurers were all in the mix. The benign US CPI data helped US treasury yields lower all along the curve, the Fed’s constant protestations notwithstanding, and JPY crosses headed sharply south late yesterday with the JPY posting new highs into the early European session today.
What will the Bank of Japan deliver? The market feels very uncertain but seems to be rushing to err on the side of caution, as 1-week implied volatility for USDJPY is at 21.5%, its highest since the pandemic outbreak and outright an extremely elevated level. This suggests that the Bank of Japan will have to deliver something, whether a hawkish hold or a surprisingly large adjustment to the band or something else to justify the excitement. There are no signs of directional panic in the risk reversals, but downside protection in USDJPY is naturally more expensive (3.3 handles more expensive for 1-week, 10-delta options).
Let’s recall that the December BoJ meeting surprised universally with the lift in the yield “band” – really a cap – to 0.50% from 0.25%. Bloomberg reports that only 1 analyst of the many surveyed is looking for any shift in the policy next week, but again, none expected anything in December either. I haven’t anything to add, other than it is ironic that the Bank of Japan is finally getting around to tightening with commodity prices massively lower and lower still on the strong JPY recover already in the bag, with US CPI data and long bond yields in full retreat and with expectations that a weakening economy will have the Fed cutting by later this year. Anything that opens a path for the Bank of Japan to leave negative rates and set itself on the path to, say, a 1.00% policy rate and an end to yield-curve-control needs a USDJPY reset of about 10-12% (at or below 115.00). For USDJPY to remain where it is or head back higher likely needs a USD liquidity crisis or a huge reheating of the inflation outlook that sees 2024 Fed rate cuts reversed and maybe even a higher terminal rate.
Chart: USDJPY
A fresh drop for USDJPY on US yields easing lower post-CPI yesterday and as the market braces itself for a possible further tweak to BoJ policy next week. Could wily Governor Kuroda deliver a nothingburger and leave further tweaks to his replacement in April or does he set up the expectation of another 25-basis point raise of the trading band and maybe a 10 bps hike to 0% at the March meeting, declaring that recent evidence of rising wages is vindication for his policy arc since 2013? For the policy rate, markets are only cautiously pricing an end to negative rates by April and a rate by end-2023 of +29 basis points. The frustrating setup here is that there is still a significant unknown of who will replace Kuroda in just a few months’ time. USDJPY levels include the 126.35 pivot low area (minor) and the bigger psychological level of 125.00 to the downside, while a reversal would need a quick back-up into 132.00 or so after next the Bank of Japan meeting, depending on where we are trading going into that event risk.
Table: FX Board of G10 and CNH trend evolution and strength.
The JPY standing almost taller than the CNH here in trending terms, though it was strong across the board yesterday. The USD is finally the weakest of the lot and could weaken further as long as US treasury yields continue to fall and this is celebrated in risk assets. AUD still enjoying the recent CNH strength and the euro may be getting some of its tailwind from hopes of Chinese stimulus as it is China’s largest trading partner.
Table: FX Board Trend Scoreboard for individual pairs.
Most All JPY crosses now have flipped negative after the big impulse yesterday – next Wednesday the big testing ground there. EURUSD has been in an uptrend for 50 days (flipped on November 4 at 0.9957 on the close that day). Easy reversal here technically for some of the USD pairs if yesterday’s move is quickly reversed – looking at you, NZDUSD and USDCAD, as first possible victims is USD not staying down here.
Upcoming Economic Calendar Highlights
A new fragmented world order can render some of today's infrastructure obselete, but it also calls for massive new investments across the globe, which requires a new set of strategic and tactical investment strategies.
Steen Jakobsen,
Chief Investment Officer
As globalisation turns to fragmentation, China seems set on playing a role in the global economy, while simultaneously working towards proofing its own economic situation from external shocks and crises.
Redmond Wong,
Market Strategist
The recent bank runs and ensuing challenges are reminicent of something we've seen before. Will it end like the S&L crises of 1986 and 1995?
Chris Dembik,
Head of Macroeconomic Research
Equity markets need to recalibrate to another - fragmented - global world. What's your view on equities in this market - are they going up or down?
Peter Garnry,
Head of Equity Strategy
With every development comes new opportunites, some of which could be in India. Have you considered the country as a part of your diversification strategy?
Charu Chanana,
Market Strategist
A collar is an option strategy that allows some protection while maintaining some upside potential. What investment would you like to use a collar strategy for?
Hans Oudshoorn,
Trainer Academy
There are arguments to be made for many commodities to have upside. Which are you paying the most attention to this quarter?
Ole S. Hansen,
Head of Commodity Strategy
In a very challenging macro environment, which currencies do you think will come out on top?
John J. Hardy,
Head of FX Strategy
