Weekly Investment View: What Is Driving USD/JPY?

This Week

Bilal argues the main driver of USD/JPY is US yields, not potential BoJ hiking; Dominique focuses on US PCE data and frontloaded Fed hikes; Caroline argues South African easing remains distant; Mirza retains our short CNH vs basket but watches the stop loss closely given the large stock market rescue package just announced; Henry still sees value in April ECB-dated ESTR payers with June the likeliest candidate for the first ECB cut; Ben thinks the BoC will pause on Wednesday; Viresh believes the oil market is looking healthier, with $85 to be the new trading range; John views equities as a hold.

Bilal Hafeez – Global Macro

BoJ Governor Ueda was hawkish in his latest presser, suggesting wage pressures are building and hinting at ending negative rates. However, he did not indicate timing and said any rise in yields would be smooth, not discontinuous. The accompanying Outlook was also more hawkish than October’s.

JGB yields have risen, but the 10y at 0.67% is noticeably below the 0.96% high of late October 2023. Markets are pricing the first hike in June, though April has 55% odds. I think the first hike will likely be April. However, the BoJ will ensure markets do not price aggressive hikes, thereby limiting any rise in Japanese yields – much like they did when exiting YCC.

For USD/JPY, I think the main driver is US yields. So, unless US yields collapse, I see no meaningful drop in USD/JPY even if the BoJ hikes. We still think the pair could hit 150 in coming weeks.

Dominique Dwor-Frecaut – US Macro

This week I am focused mainly on the December core PCE print, which I expect around +0.15% MoM. This would bring the 6m average to 1.8% saar, from 1.9% saar in November. And it would raise the risks of inflation returning to the pre-pandemic underperformance, which I believe the Fed will likely fight with frontloaded cuts.

I will also watch the Q4 GDP, which will provide a base line for 2024. I expect it to surprise positively relative to the 2% consensus.

Finally, I expect December real income and consumption to show continued growth, and I expect the savings rate to remain low. Households have responded to surprise inflation and a loss of real income by lowering savings to maintain real consumption. I expect the personal income and consumption data to show this is still the case (Chart 1).

(Chart 1: blue line = CPI yoy %; Orange line = household savings rate, % disposable income)

Mirza Baig – Emerging Markets

The Chinese government seeks to mobilize RMB 2tn to stabilize the onshore stock market, according to a Bloomberg report. This is twice the number rumoured in November last year. Chinese assets have rallied on the news, and the currency has been further helped by suggestions that the funds being mobilized are currently offshore.

The main issue here is not the size of the package per se. Since 2023, eight ETFs (widely considered the preferred investment vehicle of the national team), have received net inflows of RMB 340 bn, and still the market has fallen over 10%.

The issue is whether this is a fundamental pivot in Chinese crisis response. Since the Chinese economy rolled over in Q2 last year, authorities have been reactive and responded with piecemeal policies. Locally, the narratives are heavily doctored to maintain a pretence that the medicine is working. But it isn’t. Chinese households, suffering from weak income growth and negative wealth effects, remain cautious. Meanwhile, added spending on infrastructure has failed to generate multipliers.

So, is this rescue package just more of the same, or the start of a major pivot? We think there is currently too little information available to make a definitive call. After repeated market disappointment, the scope for Type 2 error is high.

We have a short CNH vs basket trade on, though the position is now ~0.7% underwater. Given sentiment has become overwhelmingly bearish on China, we suspect the pain trade in the near term will be further CNH strength. We are sticking to this position for now but would implement our stop loss of a -2% return.

Caroline Grady – Emerging Markets

South African easing remains some way off. Consensus is unanimous for rates on hold from the SARB on Thursday. Wednesday’s CPI release leaves an element of uncertainty, but as CPI will remain well above the SARB’s preferred 4.5%, there is little doubt that the MPC will shift from its relatively hawkish tone.

As such, rates are expected to remain unchanged at 8.25%. And with the recent ZAR weakness and rise in the Q4 inflation expectations survey, the SARB is likely to repeat that the fight against inflation is not yet over. Rate cuts are unlikely before later in the year.

(Chart 2: blue line = current, orange line = 1-yr ahead, grey

line = 2-yr ahead, black line = midpoint of inflation target)

Henry Occleston – Eurozone & UK Macro

I expect the ECB will leave interest rates unchanged at their meeting on Thursday, with a continued pushback on the cuts priced by the market.

We have long expected the ECB can wait until they have a full picture of Q1 data before cutting – which places the June meeting as the earliest candidate.

The minutes from the ECB’s December meeting show they are worried market pricing will loosen financial conditions enough to derail disinflation. That is why they have pushed back on it so much recently.

Much of this financial condition loosening can be attributed to two factors: (1) the miss in November EZ inflation; (2) the Fed’s December dovish pivot. However, December’s CPI showed that November was a one-off and that the ECB’s forecasts are more accurate than expected (Chart 3). Lagarde will want to plug this win. I expect she will also want to reiterate that they are not driven by the Fed.

We still see value in April ECB-dated ESTR payers. The trade has performed well since we entered it, but it has room to go further. There could also be value in paying meetings further out too (June priced for 46bp of cuts, we expect 25bp), but Fed front-loading could mean better prices to enter these in the near term.

Any suggestion that PEPP’s winddown can be accelerated would help our bearish EGB view, but this seems unlikely.

(Chart 3: orange line = headline, blue line = core)

Ben Ford – $-Bloc & Scandies

The Bank of Canada (BoC; Wednesday) are widely expected to keep the policy rate at 5.0%. We agree. Instead, it will be the guidance and digestion of recent data that the market analyses. After all, in the December meeting, they focused on core inflation, inflation expectations, wage growth, and corporate pricing behaviour. Looking through the four, we find:

• Core inflation: progress has been slower than hoped for. The BoC had wanted a decline out of the range in which core inflation momentum had spent most of 2023. And, while it looked like we had that in the November report, the December report gave us little further encouragement (Chart 4). Core goods inflation is struggling to return to target, while services inflation momentum continues to trend higher. As a result, the BoC will tread cautiously on taking positives here.
• Inflation expectations and corporate pricing expectations: both, too, stalled. And while great progress has already been made, the final hurdle is proving tricky to defeat.
• Wage growth: while the labour market is undoubtedly loosening, wage growth is proving stubborn. This, on the back of yet again declining productivity, has kept ULCs at record highs.

(Chart 4: orange line = CPI-median, blue line = CPI-trim)

Viresh Kanabar – Commodities

Oil: We had good news out of Libya over the weekend as the NOC announced it has resumed production. We should see its 270k b/d production field and nearby refinery come back online over the next month. Meanwhile, in the US, cold weather continues to disrupt both production and refining activity. We should also remember that gasoline demand will have also been impacted during this cold spell, meaning the actual fuel shortage will be less than expected. For instance, GasBuddy data shows that PADD 3 gasoline demand plummeted 20.1% last week.

However, moving away from some of the more temporary factors, it is clear to us that the oil market is getting healthier. in line with our view of Q1/ Q2 deficits.

Physical to financial market spreads have particularly tightened recently, while gasoil cracks have firmed. As we have suggested before, gasoil cracks were the biggest market factor driving oil last year and will continue to be just as important this year.

Bottom line: the oil market is looking healthier, and we expect $85 to be the new trading range in coming weeks.

(Chart 5: orange line = front month Brent,

blue line= ICE gasoil crack spread)

John Tierney – US Equities

Kudos to the S&P 500 (SPX) for scoring a new high and ending a two-year bear market. But do not look for more onward and upward anytime soon. Meanwhile small caps in SPX and Russell 2000 have yet to break out of two-year trading ranges (Chart 6).

Industrial bellwethers Fastenal and JB Hunt delivered good results – but more because of company-specific factors than a pickup in economic activity.

Regional banks are still struggling with the fallout from the Silicon Valley Bank crisis. They see little risk of recession, but also little hope that a stronger economy will emerge and ease their problems.

Some 100 companies report this week, spanning the sector spectrum. Among them are Tesla, Netflix, and several airlines. From what we have seen so far of company earnings, 2024 forecasts of GDP growth near 1.5% appear likely. We view equities as a hold for now, due to current high valuations.

(The commentary contained in the above article does not constitute an offer, a solicitation, or a recommendation to implement or liquidate an investment or to carry out any other transaction. It should not be used as a basis for any investment decision or other decision. Any investment decision should be based on appropriate professional advice specific to your needs.)