Why the JPY will weaken

While I continue to forecast JPY weakness over the coming months the JPY is currently being buffeted by various forces. Elevated risk aversion has limited the downside for JPY as the currency has once again found a safe haven bid although it has weakened as risk appetite improved slightly overnight.

Going forward, I expect US Treasury yields to move sharply higher as the US economy gains momentum and loses the shackles of bad weather, pressurising USD/JPY higher. Additionally likely further easing by the BoJ in April / May will contribute to downward pressure on the JPY.

Separately Japan has shifted from possessing a relatively strong broad basic balance surplus (current account + direct investment + portfolio flows) to a deficit, a factor that will undermine the JPY over the coming months.

EUR and GBP losing ground

Safe haven currencies including JPY and CHF will be the main FX beneficiaries of the current bout of risk aversion although the USD has also edged higher in part due to some slippage in the EUR and GBP. I had noted at the beggining of this week that EUR/USD will remain a buy on dips on any decline to 1.3775. However, after hitting a high around EUR/USD 1.3916 following the European Central Bank’s inaction at its policy meeting last week the currency pair distinctly looks like it has topped out this week. Technical and positioning indicators are also looking less positive for the currency, with the RSI (Relative Strength Index) at a stretched level and speculative positioning above its three month average.

Comments by ECB Vice President Constancio that the markets had not fully taken on the message from the ECB last week that policy will remain accommodative also helped to dampen sentiment for the EUR. Further slippage to technical support around 1.3778 looks likely in the near term.

GBP has lost ground overnight too. Softer data including yesterday’s January industrial production data as well as comments from the Bank of England have weighed on the currency. As noted last week GBP/USD was looking vulnerable above 1.6700 and will face some further short term pressure, with a test of support around 1.6538 looming.

Safe havens in demand

Risk aversion increased further overnight, as reflected in the VIX “fear gauge and my Risk Aversion Barometer, both of which moved higher. Risk assets in general slipped, with US equities closing lower, while safe havens including JPY and gold were in demand.

Ukraine tensions have intensified, with diplomatic efforts yielding no success and Russia stating that it would recognise the results of the referendum in Crimea. Wheat prices are feeling the direct impact of these tensions, with prices rising to a 13 week high while in contrast copper prices continue to be hit by China growth worries.

The outlook today is not a positive one, with a negative follow through expected in the trading session. There is little on the data front of note, aside from Eurozone industrial production which is unlikely to be a market mover.

JPY capped

USD/JPY is being buffeted by the conflicting forces of relatively elevated risk aversion and higher US yields, leaving the currency pair in difficult position to sustain gains. Today’s BoJ outcome has the potential to give some direction but its unlikely that the central bank will deliver any surprises after boosting its funding for lending scheme at the last meeting. Nonetheless, additional easing is likely to take place around as early as April. The emergence of US Treasury buyers as 10 year yields approach 2.8% suggests that US yields may be capped for now and it may take the emergence of more positive / less weather impacted data to push yields higher. Consequently USD/JPY will struggle to make much headway over the short term, with resistance seen around 103.77.

Chinese data casts a shadow over markets

The better than expected reading for January US jobs growth (175k versus 149k consensus) helped to buoy asset markets at the end of the week, with major US equity indices posting gains. The uptick in the US unemployment rate to 6.7% was also not perceived badly as it will put less pressure on the Fed to change its forward guidance. The jobs data helped to overcome concerns over ongoing tensions between the West and Russia over Ukraine.

Consequently the USD strengthened as US yields rose, with the 10 year Treasury yield almost touching 2.82%. The most sensitive currency pair to higher US yields is USD/JPY and further upside traction is likely. The main exception to the USD rebound was the EUR, which continued to benefit from the ECB’s lack of policy easing or dovish commentary at its policy meeting last week.

Chinese data released over the weekend will prove to be less constructive for asset markets at the turn of this week, however, with a surprise trade deficit registered over February and slowing inflation to a 13 month low. Exports dropped by whopping 18.1% in February while imports rose more strongly than expected at 10.1% yielding a trade deficit of USD 22.99 billion.

Posted in China, US. Tags: , , . Leave a Comment »
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