JPY rebound loses upward momentum on back of BoJ rate hike speculation

JPY: BoJ rate hike expectations trigger bond market sell-off outside of Japan  

The yen has continued to trade at stronger levels overnight following yesterday’s gain’s triggered by the clear signal from Governor Ueda that the BoJ is planning to resume rate hikes this month. USD/JPY initially fell sharply in response to building BoJ rate hike expectations hitting a low of 154.67 but has since risen back up closer to the 156.00-level. The initial price action casts some doubt on whether an earlier BoJ rate hike will be sufficient on its own to reverse the yen weakening trend that has been in place since Sanae Takaichi won the LDP leadership election in early October, and it may still require intervention if the yen continues to weaken. The hawkish repricing of BoJ rate hike expectations lifted yields at the long end of the JGB curve, and spilled-over into a broader sell-off in global bond markets yesterday. The 10-year JGB yield has risen by around 7bps at the start of this week, and we have seen similar sized moves for the 10-year UST yield (+9bps), the 10-year German bund yield (+6bps), and the 10-year UK gilt yield (+6bps). The initial offsetting move higher in yields outside of Japan maybe helping to curtail yen strength, although our expectation for further Fed and BoE easing in the year ahead while the BoJ gradually tightens policy should help to narrow yield spreads and encourage a stronger yen. The long end of the JGB curve has been supported overnight by the auction results from the latest 10-year auction. The results revealed solid demand with the bid-to-cover ratio picking up to 3.59 compared to 2.97 at the previous auction in November, and the 12-month average of 3.2. It has helped the 10-year JGB yield to drop back lower by around 3bps from the overnight high of 1.89%.

The short end of the Japanese rate market has moved to more fully price in a 25bps rate cut at the 19^th December BoJ policy meeting, and is currently pricing around 20bps. Those expectations were supported overnight by the lack of pushback from Japanese officials. At a post-cabinet meeting press conference, Finance Minister Katayama stated “the specific methods of monetary policy are, and should be, left to the BoJ, as a general rule, and I also believe this is the case”. She added that the government expects the BoJ “to appropriately implement monetary policy and operations” toward achieving its 2% inflation target. Views that were also repeated by Growth Strategy Minister Kiuichi. Governor Ueda recently held meetings with Finance Minister Katayama, Growth Strategy Minister Kiuchi and Prime Minister Takaichi suggesting he was given the go ahead to signal a rate hike this month. The latest developments have supported our forecasts for the BoJ to hike rates in December and for the yen to rebound gradually in the year ahead. Please see our latest monthly FX Outlook report for more details (click here).                      

BOJ SET TO RAISE RATES BUT POLICY STILL LOOSE

Source: Bloomberg, Macrobond & MUFG GMR

GBP: Relief rally unlikely to be sustained as BoE set to resume rate cuts

The pound has continued to trade at stronger levels at the start of this week after staging a relief rally following last week’s Autumn Statement. The broad-based correction lower for the US dollar helped to lift cable up to a high yesterday at 1.3275 as it moves further above the low from early November at 1.3010. Similarly, EUR/GBP remains below the 0.8800-level after hitting a high of 0.8865 in mid-November. There was initial relief that the UK Budget did not contain any nasty surprises to destabilize the gilt market, and that the government took the opportunity to raise fiscal headroom to just above GBP20 billion. However, there are still doubts over the government’s tax and spend strategy given the planned tax hikes are back-loaded to kick in around the timing of the next election while spending is more front-loaded.

The lack of immediate fiscal tightening does not provide additional impetus for the BoE to cut rates more in the coming years, yet the policy measures will help to lower inflation in the year ahead potentially creating some more leeway to cut rates. We still expect the BoE to resume rate cuts this month encouraged by labour market weakness including slowing wage growth, and recent evidence of softer inflation, which is likely to be sufficient to encourage Governor Bailey to vote for a cut. MPC member Greene has also sounded less hawkish recently but emphasized yesterday that “I would need to see the labour market deteriorate more” to vote for a cut. It suggests she is likely to vote to keep rates on hold again this month. However with only one additional member likely required to vote for cut to get a  majority on the MPC, we still believe the BoE is on track to cut rates, and encourage a weaker pound heading into year end.

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Source: Bloomberg & Investing.com