JPY Rates: Where will the pressure go?

BOJ meeting could be a source of volatility.
Group Research, Eugene Leow20 Sep 2022
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    Aside from the FOMC meeting this week, considerable attention would also be paid to the Bank of Japan’s (BOJ) meeting on Thursday. The key issue lies with whether the BOJ would tweak YCC. Similar arguments have been made before and speculators did try to prompt the BOJ to adjust by selling JGBs and shorting JGB futures in June. However, the final decision still lies with the authority. That may well depend on what the Ministry of Finance (MOF) thinks about the pace (and level) of yen weakness. The decision (whether to adjust YCC or not) can have significant implications across assets and there is a need to consider volatility as well as second order impact. If the BOJ maintains status quo, the initial reaction might well be stable-to-lower JGB yields. This would be more of the same as the JPY continues to bear the brunt of the adjustment. If the BOJ either widens the YCC band or shift the targeted tenor to the 5Y. the expected gap higher in 10Y JGB yields would be a source of volatility across DM rates. Clearly, a change in YCC tenor to the 5Y implies more room for the 10Y to adjust and should have a much larger impact on global markets.

    In short, the BOJ’s action / inaction determines where the pressure gets released (first order impact would either be higher 10Y JGB yields or weaker JPY). These will have spill-over either unto global yields or FX. The second order impact would be more difficult to determine. For the most part of the year. A weaker yen is good for Japanese equities. However, there might be a tipping point where yen weakness hurts more than it helps. If the BOJ decides to tweak YCC, the subsequent reaction would also be difficult to ascertain as the market could infer that more adjustments could be forthcoming. Too fast an adjustment in either rates of FX could also trigger a negative reaction in sentiment. Unfortunately, it feels that this event represents volatility risk that is perhaps second only the Fed this week.    

    Eugene Leow

    Senior Rates Strategist - G3 & Asia
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