With the S&P 500 up nearly 4 per cent in two days, commodities prices firming, better-than-expected economic data, and core bond prices under pressure, some analysts are (already) seeing a rebound in risk appetite. Indeed, if US non-farm payrolls data for August — due later on Friday — reassure markets, as expected, the risk bulls will probably come out in full force.
All the more curious, then, that the “safe-haven currency”, the yen, is still riding strong, down from last week’s 15-year highs of nearly Y83 to the dollar but still hovering around Y84.38 — despite Japan’s latest political turmoil, constant threats of currency intervention by officials and lacklustre economic data.
Indeed, with the battle for leadership of the ruling DPJ party to be decided in a September 14 party vote, there is a real prospect that Ichiro Ozawa, challenger to prime minister Naoto Kan, will be able to make good on his pledge to intervene to curb the yen.
The prospect has undoubtedly boosted the rush of Japanese investment in overseas assets, as yield-hungry investors move to take advantage of the strong yen.
For example, as Bloomberg reports on Friday:
Japanese investors are scooping up record amounts of bonds sold by the World Bank and state-backed lenders, seeking higher returns as government debt yields tumble.
Kokusai Global Sovereign Open, Asia’s biggest bond fund, boosted holdings of such securities, known as supranational bonds, to 8.2 percent of its portfolio, the most ever. Mitsubishi UFJ Asset Management Co. started four funds that invest in the debt and Diam Co. is attracting record amounts earmarked for the notes. Japanese investors bought an unprecedented 2.18 trillion yen ($25.8 billion) net amount of overseas debt in the week ended Aug. 13.
Citigroup’s currency strategy team observes on Friday that while USD/JPY is off its lows of nearly Y83 to the dollar last week, signs of a sustained pick-up have yet to emerge. They add:
This comes against a backdrop in which data indicate that beginning from April, outbound portfolio investment from Japan has rapidly increased. In particular, the current 3-month outbound securities investment is expected to reach a record high. The amount of the outbound portfolio investment is large enough to cover the trade surplus, and it looks that investment flows have absorbed speculative JPY long positions.
A rise in US Treasury yields is most likely needed to bring the yen down, but once that happens, the Citi analysts note, USD/JPY “may recover more than the market would anticipate”.
With or without a pro-intervention leader such as Ozawa in the picture, some analysts believe that Japanese currency intervention is still very much on the cards.
Japanese officials have constantly cited US opposition to currency intervention as a deterrent to direct intervention – last conducted in 2003-04 – although lately, they haven’t helped their case with repeated, and so far hollow, threats to intervene.
Already, however, currency options show expectations of yen intervention, according to Credit Agricole, as Bloomberg reports.
But – wait – in a separate report on Friday, the news agency quotes three Japanese officials insisting that government yen sales without US backing “would be a challenge” (meaning, “out of the question”), and noting that volatility, rather than the current yen level, would be a more likely trigger for any offical move to sell the currency.
Citi’s global head of G10 FX strategy, Steve Englander, differs, telling FT Alphaville:
Within Japan the view seems to be that intervention would be unwelcome by the US and G7. However we think that Japan’s deflation – which would be intensified by yen strength – gives a strong economic justification and trumps the argument that this would be construed as currency manipulation. While the US might give some tepid opposition the intervention, the trade deficit with Japan is back to 1998 levels and is a fraction of the deficit versus China. So we doubt it would register on the political radar screen.
Given the positioning in markets, unilateral intervention “has a decent chance of success”, but, Englander notes: “In practical terms we may have to wait till the DPJ leadership is settled or a return of abrupt downside pressures on the yen for there to be clear political guidance”.
RBS’s strategists also see the prospect of intervention, as Greg Gibbs noted earlier this week (our link):
Judging by the rhetoric in Japan, FX intervention may occur at any time. The market thinks it may not work to halt the JPY rise. However, serious intervention is likely to succeed in stabilising the USD/JPY, lift it back into an 85/90 range, and potentially set the scene for a weaker JPY over the longer term.
Japanese policymakers have increasingly expressed concern over the rising JPY… The rhetoric and BoJ action has failed to provide much relief from the rising JPY. The market has an appearance of being short JPY. Japanese margin traders are significantly short, and retail investors have probably bought their fill of foreign currency bonds for the time being. Institutions and corporations may also be lining up to unload foreign currency and return to JPY. All eyes are on the authorities and intervention will be needed to turn the JPY around. In the mean time, the delay in action itself is creating an impression they are not confident they have the ability to turn the JPY.
But, as any good analyst knows, yen intervention hasn’t worked in the past. As RBS argues:
…a crucial difference between now and then is that confidence in the Japanese economy is fading and there is little demand for Japanese assets. In contrast, foreign demand for Japanese equities was very high in 2003/04. Net inflow to Japanese equities during this intervention period was over JPY14 tn.
Furthermore; IMF staff have warned that Japan has the least space for fiscal stimulus of 23 advanced economies…And yet this is exactly what Japan’s government aims to do. We think it will be very difficult for the market to justify taking on the MoF if they are serious about intervention.
But for now, at least, the strategists — and FX traders — should focus on the arcane process of a Japanese political leadership struggle.
Related links:
An illustrated history of yen intervention – FT Alphaville
How to say ‘appropriate action’ in Japanese – FT Alphaville
A central banker’s parable: boy who cried ‘tekisetsu’ – FTAlphaville
The burgernomics of yen appreciation – FT Alphaville