I say it all the time. There is perhaps no better real time referendum on markets.
On Thursday, Trump’s efforts to hype up his tax reform agenda in comments reportedly made to airline executives triggered a sharp rally for the greenback just before 10 a.m. EST. The gains held.
Remember, this is all about rate differentials and on that score, things are made extra interesting by the BoJ’s commitment to anchor JGB 10s (yield curve control). When you throw Trump and the whole currency manipulator charge into the mix, you end up with a scenario in which Kuroda is effectively forced into keeping his promise of stepping in to keep 10Y JGB yields from rising too much. If he doesn’t, he’s effectively admitting that Japanese monetary policy is aimed at devaluing the yen (think about it, if the BoJ doesn’t intervene to clamp down yields, it will be seen by markets as a tacit admission that they’re backing off to appease Trump).
That’s the backdrop against which the following interesting commentary from Bloomberg contributor Cameron Crise is set.
Small wonder USD/JPY bulls are enjoying themselves today. There hasn’t been much good news for the trade recently, so the president’s rhetoric this morning provided a welcome shot in the arm and raises hopes that tomorrow’s pow-wow with Abe will go swimmingly.
- One might ask, however, if the pair isn’t overshooting a little given the relatively modest increase in U.S. market interest rates. I ran a little regression on daily changes in USD/JPY, with changes in the 12-month forward and 10-year bond spread as explanatory variables. Election day through the end of January were the in-sample period.
- On that analysis, USD/JPY has gone up a little too much; the model predicts a rise of 79 bps based on rate moves, as opposed to the 111 bps rally as of the time of writing this on Thursday. I ran a separate regression on the level of USD/JPY using the same explanatory variables, and an interesting phenomenon appears. It looks as if the beta of USD/JPY to interest-rate factors increased in the middle of December.
- This extra juice may represent sentiment towards the Congressional tax plans (which, if implemented, would be bullish for the dollar.) As such, a larger reaction based on the Trump comments would be justified.
- Moral of the story? At this point USD/JPY may have overshot a little…but I can’t really blame it.