Japanese Yen (JPY), JGB Yields Plunge on Reduced BOJ Expectations

How Did the Markets React?  

Japanese economic data hammered the final nail into the Bank of Japan’s interest rate coffin, as the leading economic index plummeted to 20.0% from 54.5%, with a reading below 50.0% signaling the economy will cool in the next three to six months. Meanwhile, machine tool orders dropped to a four-year low of -2.4% in December, as contracting domestic demand negates any growth in foreign demand. While the individual releases didn’t cause immediate reaction in the Japanese markets, the plunge in JGB yields and the yen indicated that trader expectations of a January rate hike by the Bank of Japan had been slashed. Adding to the sentiment was commentary by Japan’s Finance Minister Koji Omi and Economics Ministers Hiroko Ota. Mr. Omi expressed his standard plea to the Bank of Japan that he wants monetary policy to support growth. Ms. Ota put a bit more pressure on the central bank, saying that she wants the Bank of Japan to explain at the next meeting the path by which Japan will move out of deflation. She also noted that she will request that the central bank give an explanation of their interim review on the Bank of Japan’s outlook report on the economy and prices.

Bonds – 10-Year Japanese Government Bonds

Yields on 10-year Japanese Government Bonds dropped sharply from early highs of 1.765% to close the day down two basis points at 1.720% with prices up .169 to 99.830. The declines came as expectations of monetary policy action at next week’s Bank of Japan interest rate setting meeting came crashing down amidst negative economic data and dovish commentary by fiscal officials. While the central bank has maintained a hawkish bias, they risk losing credibility if they attempt to normalize rates when inflation is practically non-existent, consumer spending is astoundingly weak, and leading indicators point to even slower growth in coming months. As a result, the Bank of Japan will likely keep rates steady at 0.25%, leaving JGB yields to suffer until more encouraging economic data comes to fruition.

FX – USD/JPY

USD/JPY didn’t even hesitate to break through the 120.00 level today for the first time in more than a year as yen nose-dived on the deadly mix of disappointing fundamental data and dovish rhetoric from Japanese Finance Minister Omi and Economics Minister Ota. Based on the overnight index swap rate, the chance of a 25 basis point hike next week by the Bank of Japan dropped to 60% from 76% a week earlier, as economic results have only reiterated that inflation is weak at best, consumption is barely fledgling, and the outlook for growth is tepid. With the carry-trade widely in favor of the greenback by 500 basis points, it’s no wonder the dollar managed to surge to a high of 120.35 against the yen.







 

Equities – Nikkei 225 Index

Japanese equities declined on reduced expectations for interest rate increases by the Bank of Japan, as the Nikkei 225 pared down early gains to wrap up the day 0.6% lower at 16,838.17. Companies in the banking sector took a hit as they will not be able to increase their own interest rates to improve profit margins until the Bank of Japan raises the country’s benchmark. Takefuji plunged 5.4% to 4,920 yen. Meanwhile, Credit Saison dropped 4.8% to 4,340 yen, despite news of a joint launch with Softbank of a credit card linked to Softbank mobile customers’ accounts. Softbank was unchanged at 2,485 yen.