Carry trades could drive JPY considerably lower by year end
The Bank of Japan (BoJ) is at odds with its global peers over monetary policy making JPY once again very attractive for carry trades and could drive USD/JPY all the way to 120.00 by year end providing markets remain relatively calm.
That latter statement is important because any signs of turmoil will see sharp rallies in JPY on short covering with the likes of AUD, NZD and MXN falling hard as they’re largely the main beneficiaries from carry trades.
Leading central banks across the world are signalling a retreat from ultra-loose monetary policies, the exact opposite of what the BoJ is doing, with all things being equal, should see JPY fall against other currencies and there are already growing short positions against the Japanese currency.
Indeed, the intention of other leading central banks to change their monetary policies, has forced the BoJ to defend its ‘around zero’ percent yield target on 10-year Japanese government bonds (JGB) and yield targets on other maturities in the face of rising global bond yields.
Given the BoJ already owns 40% of JGBs this buying could become challenging, but in the meantime, it is a negative for JPY.
The issue is that the BoJ is trying to stimulate inflation and it remains stubbornly low, it was 0.4% year-on-year in April compared with the central bank’s 2.0% target.
More should be revealed on Wednesday with a monetary policy statement expected followed on Thursday by an outlook report, a policy rate statement and later a press conference.
JPY’s biggest losses are likely to be made against higher yielding currencies along with the EUR, which is rising on a belief that the European Central Bank will make an announcement over intentions to taper its quantitative easing programme in September.
Losses against USD could be limited by disappointment over President Donald Trump to enact a huge economic stimulus meaning that US interest rates could be close to their peak particularly with various Federal Reserve personnel sounding more dovish last week.
As long as the markets continue to buy the story of central banks exiting unconventional monetary policies and providing markets remain relatively calm, the JPY carry trade should thrive.
TECHNICAL ANALYSIS: AUD/JPY nears key resistance level
The narrative of the leading global central banks retreating from unconventional monetary policies except for the Bank of Japan, could see AUD/JPY sweep away key resistance this week or next.
As of Friday, AUD/JPY was just shy of 88.183, its highest since December 2015. Nonetheless, even if that level is convincingly breached, it could be a while before the next big leg up takes place.
On the daily RSI, the pair are overbought – the two most recent occasions that happened saw a pull back – and they’re also pushing hard on the upper Bollinger band, usually a signal that a retreat is in the wings.
The rally’s momentum and the absence of typical end of rally signals such as spinning tops or head and shoulders formations, makes it likely that it will carry on after a period of consolidation.
Resistance 88.18, 88.70 and 88.80 and support: 87.02, 86.88 and 85.83-7.
By Justin Pugsley, Markets Analyst MahiFX