In the recent trajectory of global financial markets, the yen has exhibited resilience, clawing back lost ground after a substantial sell-off prompted by the Bank of Japan’s latest policy update.
The ensuing recovery triggered a descent in USD/JPY to an intra-day low of 142.81, hovering just above the critical 200-day moving average support at approximately 142.70. Notably, the yen nearly reversed the losses incurred earlier in the week when USD/JPY hit an intra-day high of 144.96. To provide context, prior to the BoJ’s policy announcement, the currency was trading around 142.
The intricate dance of the yen in response to these market dynamics hints at a nuanced interplay of factors. Examining the price action, it becomes apparent that, considering the prevailing external environment, a delayed exit from negative rates by the BoJ is unlikely to trigger a sustained yen sell-off. Speculation is rife that other major central banks may take pre-emptive measures, cutting rates earlier and more aggressively in the coming year.
The cautious tone struck by the BoJ in its recent policy update has reverberated through Japan’s financial landscape, significantly depressing long-term yields. Since the onset of the week, the 10-year swap rate in Japan has witnessed a notable decline of nearly 10 basis points, settling at 0.8%. In contrast, the U.S. 10-year swap rate experienced a more modest dip of around 5 basis points during the same period. This shift has resulted in a subtle widening of yield spreads, a departure from the recent trend of sharp narrowing. Nonetheless, the 10-year yield spread between U.S. and Japan swap rates has contracted by approximately 92 basis points since October 19th.
Delving deeper into the scenario, my short-term valuation model, encompassing considerations of yield spreads, oil prices, and equity valuations, signals a reduction in the fair value of USD/JPY from around 153.00 to the current level of approximately 142.50 over the specified period. For a sustained rebound in USD/JPY, market participants must critically evaluate the likelihood of the Federal Reserve implementing the earlier and more aggressive rate cuts currently priced in for the next year. The imminent release of the latest U.S. PCE deflator report for November is poised to be pivotal in shaping this perspective.
Against this backdrop, Japan’s overnight headlines spotlight a Bloomberg report indicating that the country is poised to propose an initial budget for the fiscal year beginning in April, amounting to JPY112 trillion, mirroring the record set in the current fiscal year at JPY114.4 trillion. The government’s loose fiscal policy stance is anticipated to persist, bolstering the domestic economy and instilling confidence in the BoJ to potentially initiate rate hikes in the first half of the coming year. While initial expectations hinted at the possibility of rate hikes as early as January, a slightly heightened risk of a delay until April has emerged, aligning with the culmination of the latest annual wage negotiations in Japan.
Considering these unfolding dynamics, my forecasts for a stronger yen in 2024 are underpinned by the anticipation of an eventual exit from negative rates in Japan. However, the landscape remains complex, with variables such as fiscal policies, global economic conditions, and central bank decisions weaving an intricate tapestry that demands careful navigation by market participants and analysts alike.Top of Form
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