USDJPY: Target in mid-2017 remains 92 – RBC CM

Adam Cole, Research Analyst at RBC Capital Markets, suggests that the early October has been all about the Fed, with the implied probability of a December hike rising significantly and pulling USD/JPY back to the top of the recent range around 104.

Key Quotes

“In the near-term, we think the rally is extended and would use it to position for a resumption of the downtrend that has held for the whole of 2016. Expectations for Fed tightening are probably reaching something of a limit near-term, and the BoJ’s latest package of measures did nothing to change our short or medium-term positive views on JPY.

The introduction of a target for 10yr yields gives the BoJ a little more room for manoeuvre to cut the policy rate further (in ensuring the curve steepens on such a move), but not much. And in easing the constraints on the policy rate, the BoJ may have simply made other constraints more binding. In particular, the BoJ’s concentration of JGB holdings in certain sectors limits its ability to manipulate the curve, so long as it maintains the monetary base growth target of JPY80trn a year. For this reason, the introduction of yield curve targeting may spell the death of QQE if the two become mutually incompatible. This is probably not imminent, but eventually it may become unsustainable to target both the price and quantity of money. The ultimate constraint is of course that, whilst the BoJ may have limited the negative side effects of cutting rates further, there is still no guarantee that easing in this way will actually achieve anything. The BoJ is not at the “end of the road” yet, but it is no further from it after September’s measures.

6-12 Month Outlook – Target 92

Is this, particularly when combined with an admission the inflation target cannot be met on a two year horizon necessarily positive for JPY? The failure to lift nominal GDP through either prices or volumes should bring the unsustainability of Japan’s budget imbalance back into focus and for many this is JPY-bearish, not bullish. The public sector deficit is the counterpart to a large private sector surplus and so long as excess private sector savings fund public sector borrowing, Japan’s imbalances are a purely domestic issue and funding the borrowing requirement is unlikely to be an issue. For us, policy failure is still a reason to buy JPY, not sell it, and our target for USD/JPY in mid-2017 remains 92.”