12/8/2023 0 Comments Usd to japanese yenHowever, since the BoJ’s April meeting, when new Governor Ueda pushed back against any imminent change in the monetary policy, markets have largely priced out the likelihood of policy tightening in the near term. This deviation from fundamentals was largely due to markets building-in expectation of a gradual reversal of the Bank of Japan’s (BoJ) monetary policy, from years of maintaining an extreme dovish bias to a more hawkish tilt, as inflationary pressures rise. In Figure 1 above, between January and April 2023, USD/JPY traded weaker than the level implied by the interest rate differential. USD/JPY and difference between 10-year US and Japanese government bond yields ![]() This should drive interest rate differentials between the US and Japan lower, pushing USD/JPY lower (or yen stronger).įig 1: Lower Interest rate differentials to drag USD/JPY lower Consequently, we expect US government bond yields to decline modestly over the next few months, eventually dipping below 3% by March 2024. If this scenario plays out as we expect, the Fed is likely to begin cutting rates by the end of the year as it tries to avoid a deep recession. Hence, we expect the US to enter a mild recession by Q4 of this year. While US inflation has proven to be stickier than expected, we cannot ignore that the US economy is slowing down as we start to see the lagged impact of 500bps of Fed rate hikes over the past 15 months. The current spike in US bond yields appears to be another case of a knee-jerk overreaction from investors. Nevertheless, we know that markets often tend to overreact to shifting narratives. This has pushed USD/JPY pair higher (or the yen weaker). Over the past few weeks, the 10-year rate differential has widened on the back of rising US government bond yields as financial markets sharply reduced their expectations of Fed rate cuts over the next 12 months due to hawkish commentary from Fed policymakers amid stickier-than-expected US inflation data. While most currency pairs tend to show strong correlation with short-term (usually 2-year) interest rate differentials, USD/JPY stands out – the pair has a strong relationship with 10-year nominal interest differential between US and Japan in the post-pandemic era. Interest rate differentials to turn from headwind to a tailwind Such a move would translate into double-digit returns for JPY investors. Here, we highlight three potential catalysts which could push the USD/JPY pair towards 120-125 range. ![]() We believe markets expectations have now run ahead of reality, offering investors with 12-24-month horizon a rare opportunity to add exposure to the JPY. Higher US bond yields and unwinding of market expectations of a more hawkish BoJ policy have been the primary drivers for the yen’s underperformance. The Japanese yen (JPY) has been one of the worst performing major currencies in 2023.
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