A better week for the USD and JPY

USD: Trading on a firmer footing ahead of US CPI report

The US dollar is finishing this week on a firmer footing following the release of the much stronger than expected nonfarm payrolls report although it has failed build on initial gains. US dollar strength has been most evident overnight against the commodity-related G10 currencies of the Australian dollar and Norwegian krone which have corrected lower after recent strong gains. Already at the start of this year the Australian dollar and Norwegian krone have recorded outsized gains of around 6% and 5% against the US dollar. However, they have been undermined overnight by more risk-off trading conditions triggered by the sell-off in US tech stocks. The Nasdaq equity index fell by around 2% and weakness has spilled over into Asian equity markets. At the same time, the equity market sell-off has put downward pressure on US yields and  contributed to a full reversal of the initial move higher in US yields after the nonfarm payrolls report was released. The macro focus today will be the release of the latest US CPI report for January. After the stronger nonfarm payrolls report, market participants have scaled back expectations for further Fed rate cuts in the first half of this year. However, today’s US CPI report should provide some relief for the Fed revealing that core inflation continues to slow. The combination of stronger productivity growth, fading inflationary impact from tariff hikes, slowing wage growth and inflation  should keep the door open to further Fed rate cuts this year even if downside risks to the labour market are beginning to ease.

A further supportive development for the inflation outlook are reports that President Trump is planning to scale back some tariffs on steel and aluminium goods. According to the FT report, the Trump administration is reviewing a list of products affected by levies and plans to exempt some items, and halt the expansion of the lists. They will instead launch more targeted national security probes into specific goods. The potential change in thinking has been prompted by trade officials in the Commerce Department and US Trade Representative’s office who believe the tariffs were hurting Us consumers by raising prices for some goods. The report fits with our view that the Trump administration would be reluctant to hike tariffs further this year ahead of the mid-term elections. The latest opinion polls show that President Trump’s net approval rating is strongly negative between -15 and -25 points. A further reversal of some of the tariff hikes would help to ease inflation pressures, and create more leeway for the Fed to lower rates thereby encouraging a weaker US dollar.                      

JPY & ULTRA LONG JGBS REBOUND AFTER ELECTION

Source: Bloomberg, Macrobond & MUFG GMR

JPY: Short positions scaled back after Japan election fails to trigger sell-off

The yen is on course to be the best performing G10 currency this week. After initially selling off at the start of this week after the Japan election results, USD/JPY has since fallen sharply hitting a low yesterday of 152.27. It appears to be another example of buy the rumour, sell the fact as the yen failed to weaken further after PM Takaichi strengthened her grip on power in Japan. It has likely encouraged speculators to further scale back short yen positions that have been built up in recent months. Similarly, the rebound in JGBs highlights that market concerns over fiscal risks in Japan have also eased helping to recover some lost ground. The rebound in the JGB market has been most evident at the ultra long-end of the curve. The 30-year JGB yield is now close to flat year to date after rising by close 50bps at the worst point on 20^th January after PM Takaichi pledged to freeze the sales tax on food for two years. While she has indicated that she still plans to go ahead with the freeze since winning the election, market participants are no longer as concerned over the fiscal risks.         

Japan’s top currency official Atsushi Mimura warned yesterday that “we have not lowered our guard at all” even after the yen has rebounded this week. He stated that “there’s been a lot of talk about the Us jobs data and the market moves that followed, including speculation about whether there were rate checks and so on”, while adding that he would not comment on such matters. He ended by say that “we will continue to monitor market developments with a high sense of urgency and maintain close coordination with market participants. The comments highlight clearly that Japan still wants to deter speculative yen selling which has helped to dampen downside risks at the start of this year.  

There were also hawkish BoJ policy comments overnight that are supportive for the yen. BoJ board member Naoki Tamura stated that “it is quite possible that, as early as this spring, the price stability target of 2% can be judged to have been achieved if it’s confirmed with a high certainty that wage growth this year will be in line with the target for the third consecutive year”. The comments will reinforce market expectations for the BoJ to speed up the pace of rate hikes by delivering the next hike as early as in April. The Japanese rate market is already pricing in around 18bps of hikes by April which helped to dampen the impact form the comments overnight. Furthermore, Naoki Tamura is a well known hawk and has frequently dissented calling for faster policy normalization. It remains to be seen if the same view is shared by Governor Ueda and other BoJ officials. A faster pace of BoJ rate hikes is one potential catalyst that could reinforce the yen rebound in the coming months.        

KEY RELEASES AND EVENTS

Source: Bloomberg & Investing.com