If you were long the JPY then Christmas just came early. On Monday we were looking at some excellent momentum activity in pairs like AUDJPY, but all of a sudden it’s all over as the Bank of Japan shocked currency markets by tweaking its yield curve control policy. This has led to a surge in the JPY against all the major traded currencies.
The yen surged against the dollar and Japanese equities fell as the BoJ decided to widen the range by which it allows the government 10yr yield to fluctuate. It will now allow the 10yr bond to move between –0.5% to 0.5%, from a previous range of –0.25% to 0.25%, whilst keeping the overnight interest rate at –0.1%.
“The move is a major surprise,” said Neil Wilson, Chief Market Analyst at Finalto. “The chatter had been about a policy shift perhaps taking place in April when governor Kuroda’s term ends. He was keen to stress that this decision does not amount to a tightening of policy, nor is it the off-ramp towards doing so. Instead, he said it was to combat “deteriorating market functioning could threaten corporate financing”. Certainly, the Japanese government bond market has become totally dysfunctional since the BoJ is now the only player.”
Wilson said that there is a strong chance markets start to price tighter policy ahead even if that is not the plan – markets have a habit of pushing the envelope and testing central banks’ resolve.
“It’s hard for the market not to see this as an implicit signal from the BoJ that the policy of the last decade has changed and needs to change,” Wilson explained. “Inflation in Japan is at a 40-yr high, Japan has been a total outlier compared to the rest of developed countries, and you cannot do this kind of ultra-loose policy ad infinitum.”
Kuroda Haruhiko himself has said that any tweak to the yield curve control mechanism would be a de facto interest rate tweak on the part of Japan. “This measure is not a rate hike,” he stressed in Tokyo Tuesday morning. “Adjusting the YCC does not signal the end of the YCC or an exit strategy.”
Kuroda had faced questions in Japan’s parliament last month about his yield curve control policy. Politicians were worried that the Bank of Japan seemed to be heading against a global trend of monetary tightening. The YCC policy was meant to spur Japan’s economy by keeping interest rates low. It targets the long-term yen rate by pinning the 10 year government bond yield at around 0%. To achieve this, the bank has been buying unlimited amounts of bonds from the market, keeping the figure below its upper band of 0.25%.
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Kuroda told the Japanese parliament that the BoJ would change its approach if the country can hit and maintain its 2% inflation target. He ruled out making any changes now. The YCC policy was designed to get Japan out of a sustained period of deflation, but as the US Fed started to raise rates, so the JPY crashed to a 32 year low against the USD.
No robust wage growth for Kuroda
Japan has been facing increasing inflation but has not been seeing any substantial wage growth. Kuroda has been fairly adamant that without that, Japan would not raise rates. But with three major central banks all raising rates last week, the JPY market started to look like an outlier. We’ve seen a number of currencies building momentum against the JPY since Thursday.
Now traders are starting to notice just how illiquid the Japanese bond market is, with the BoJ frantically buying up paper. Analysts are now saying that the JGB market is starting to look dysfunctional. The BoJ now owns more than half of all outstanding Japanese government bonds. That’s up from 11.5% when Kuroda was appointed BoJ governor in 2013. Some analysts are evening predicting that this could be the start of a broad exit out of the YCC policy for Japan.
We are now seeing some extreme moves in the JPY market for FX traders. The Euro was down more than 3.3% against the JPY in 24 hours and Asia Pacific currencies like the NZD and AUD were seeing even bigger falls. JPY/NZD was smashing it Tuesday afternoon, up more than 4%.
