DOLLAR/YEN: CARRY ON OR CARRY OVER?
Whether or not Japanese exporters took the opportunity to add a few hedges when USDJPY again touched 113.00 on Thursday, it’s undeniable that the pair then traded lower. Perhaps traders were mindful of estimates of substantial London cut expiries at the 112.50 level on Thursday, or perhaps the market was thinking about large London cut expiries at 112.00 on Friday (1500h London time, 1400GMT). ThomsonReutersIFR estimate the latter to total some USD1.4 billion. That aside Japan’s MUFG takes the view that recent yen weakness “is being fuelled primarily by the notable upturn in short-term yields in the USA,” noting that “since the low-point on 8th September, the 2- year UST bond yield has advanced by 30bps to 1.56%, the highest level since October 2008 – when yields were plunging following the collapse of Lehman Brothers. USD/JPY since 8th September is up close to 5%.” But as regards US interest rates, the Japanese firm cautions that “we’ve been here before. In Oct-Nov 2015 USD/JPY advanced 5% ahead of the first FOMC hike; advanced sharply in Nov 2016 admittedly more on Trump’s victory but also ahead of the second FOMC rate hike. The gain ahead of the March 2017 hike was more modest (2.5%) while the June FOMC rate hike saw the advance follow the rate hike (4%). On all occasions, USD/JPY has failed to hold on to these gains.” “One key factor is simply due to the fact that the pace of [US] rate hikes has been too slow to encourage the re-establishment of yen carry positions.
The yen carry trade was hugely attractive in the last FOMC tightening cycle between 2004 and 2007 with the average yen carry return across G10 (equally-weighted) FX a substantial 42.5%.” MUFG takes the view that “the yen carry return during the current Fed tightening cycle is remarkably different given of course the pace of tightening and therefore the yield pick-up has clearly not been substantial enough” to sustain yen weakness. It’s an interesting argument and of course there is the risk event of Sunday’s national election in Japan to consider too. Either way, there’s plenty for traders to consider in the yen space.
Written by Neal Kimberley, External Currency Analyst.