Jane Foley, Research Analyst at Rabobank, suggests that true to its form as a safe haven currency the JPY lost ground overnight as the Shanghai Composite climbed higher.
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“In turn a softer yen lent some encouragement to Japanese exporters’ stocks although the performance of the Nikkei 225, which closed just 0.37% higher on the day, lacked conviction. Knocking confidence in the Japanese stock market was news that Japanese company profits fell -1.7% y/y in Q4 while sales dropped -2.7% y/y. Also disappointing was the smaller than expected 8.5% y/y rise in Japanese capital spending in Q4 and the release of softer manufacturing PMI data.
All of these releases suggest that despite the huge amount of stimulus already in the Japanese economy, it is failing to build traction. The immediate implication for Japan is that further stimulus could be required. The reality is that the BoJ appears to be running out of ammunition. The BoJ is already buying JGBs so that their amount outstanding will increase at an annual pace of about Y80 trn in addition to its purchases of ETFs, J-REITs, CP and corporate bonds. This sets the backdrop for the BoJ’s January announcement of negative interest rates. We would argue that this was at the very least poorly timed.
The WSJ ran a story last month suggesting that the BoJ’s decision to apply a negative interest rate on some bank balances had spurred the sale of domestic safes, with supply of the most popular models running dry. This behaviour by consumers is likely influenced by the prevalence of negative interest rates further along the yield curve.
This morning the Japanese government sold 10 year paper with a negative yield for the first time. In theory the existence of low or negative nominal interest rates should weaken the JPY as investors seek out a positive carry overseas. This forms the basis of the currency war in which the BoJ was a successful player in 2013 and 2014. However, the carry trade requires an environment of elevated risk appetite and low volatility to be successful.
While yesterday’s decision by the PBoC to cut bank’s reserve ratio requirements by 50 bps propped up risk appetite overnight, it seems unlikely that the yen will relinquish much ground given the current plethora of global concerns. In the absence of much better news from China or the US the yen is likely to remain relatively well bid on safe haven demand and both sales of safes and JGBs may continue to do well. This morning’s 10 yr auction of Japanese government paper managed to generate sufficient interest to cover the sale three times over.
While the news of the PBoC policy easing yesterday helped lift sentiment, it is a double edged sword for China’s export partners if it has a depressive impact on the value of the CNY. Despite pledging to the G20 over the weekend that it would not devalue to CNY, further monetary easing is set to have a depressive impact on the currency. Although the PBoC set a firmer fix for the CNY today, it may have to step up the pace of its FX intervention to keep the CNY stable going forward.
The JPY has been gaining ground vs. the CNY in a trend that was sparked by the devaluation of the CNY in August 2015. More recent demand for the JPY as a safe haven has further supported the value of Japan’s effective exchange rate. That said, on a 5 day view the USD is second best performing G10 currency after the CAD as the market questions whether it was hasty in pricing out the risk of further Fed rate hikes this year. A stronger USD could bring some downward relief for Japan’s effective exchange rate.
However, since a firmer USD would coincidentally drag up China’s effective exchange rate (as a consequence of the de facto USD-CNY peg), it could also increase the pace at which the PBoC allows the CNY to soften vs. the USD. Since Japan would likely be widely criticised for any FX intervention by other G7 nations, it is not a policy we expect it to employ. Therefore, in current circumstances the BoJ has little influence over the value of the JPY and the announcement of negative rates was poorly timed. We expect USD/JPY to crawl back to the 115.00 area on a 6 mth view.”
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