Strong USDJPY Shakes Heads at BoJ

by Ben Ridgeway, Saxo Capital Markets

• US dollar has gained 7% against yen since August
• Japan PM Abe uneasy with sudden yen weakness
• Incremental rise in Japan’s sales tax possible

​On September 19th USD/JPY reached highs of 109.46 not seen since early 2008, after one of the busiest weeks in currency markets all year. The greenback has gained almost 7% against JPY since August, a move that can be pinpointed to have begun on August 28th when the gross domestic product figure for the US came in at 4.2% in the second quarter, compared to the -2.1% that had been printed in the previous quarter.

Tensions in the Middle East have not reached boiling point by any means and this has kept any traditional yen buying down. On the other hand, these simmers have certainly persisted with President Obama recently announcing the commencement of US air strikes on Islamic State targets in Syria, to add to efforts already in existence within northern Iraq.

Yen buying is said to have been prevalent, and has been twinned with an increasingly hawkish view on the US dollar that has pushed USD/JPY to its current level. The dollar index is pushing through the 85.0 level with USD advancing against counterparties across the board. Where EUR, GBP and the antipodean currencies have stumbled, USD has continued its march and it is this combination that has led USD/JPY to rise and keep rising.

Market reaction to JPY weakness

Many market participants commented that once the pair broke out of the 101.0 to 104.0 range that it sat within for the majority of the year the move would be significant and this has proved to be the case. In the currency options market, the demand for topside strikes during this range-bound trading was a prominent indicator of the direction of such a breakout before it began to occur in August.

Within Japan the announcement from the largest public pension fund in the world on July 8th that it would increase its allocation in domestic stocks from 12% to 20% gave a boost to small businesses across the nation, weakening the yen in a favourable fashion. USD/JPY at the time moved to what was then a high of 102.43 upon this news from the Government Pension Investment Fund.

Recent news that Japan’s Government Pension Fund will increase its allocation into domestic stocks has helped ease the yen, but some investors had hoped the fund would inject more money into Japan’s stock market. Photo: Shutterstock

The precise makeup of the new portfolio is still to be announced but when put into force, it may serve to boost USD/JPY further. Moreover, the negative impact of the controversial sales tax hike was noted in the minutes from the Bank of Japan’s July meeting as likely to begin to decrease, and indeed this has taken place. These significant adaptations occurring in Tokyo set the stage for the USD/JPY rise, and needed only the recent push from the dollar to make that happen.

A sense of halt was temporarily given this week to the advancement of the pair after Japanese Prime Minister Shinzo Abe commented on the pressure that the consistent weakening of JPY may have on economies in the wider and smaller regions of Japan. This came after comments from ministers in Tokyo which precluded those from Abe, but may well be a mark of concern about the dramatic pace of the move as opposed to the direction of it.

Is Abenomics working?

The question of whether ‘Abenomics’ is working remains to be seen, but steps to boost growth are now becoming more visible. The consumption tax across Japan is set to hit the 10% target in 2015 whilst unemployment stands at an increasingly healthy 3.8%. Despite the improved unemployment rate, a contraction in year-on-year growth of 1.8% in Japan was reported in the second quarter of the year. This figure results from the impact of the economic response to the tax hike from 5% to 8%, and with a deflation gap narrowing, Abe and his monetary policy committee may decide to make a more incremental increase in the sales tax from 8% to 10%.

As fundamental data shows firm growth in the US and rate hikes from the Federal Reserve appear increasingly imminent, there is unlikely to be a change in direction for USD/JPY, although a sense of consolidation may occur for the pair. It remains to be seen just quite how the situation in Syria and Iraq will develop, but the advancing problem of the Islamic State is unlikely to cease and this may be a factor that could potentially move USD/JPY towards the downside rather than towards the 110.0 figure.

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