Albert Edwards On ‘The Biggest Story No One Is Talking About’

“No one” is talking about “the biggest story.” But don’t worry. Albert Edwards has you covered.

In a note dated Friday, SocGen’s incorrigible (yet affable) contrarian warned that “something is likely to snap in the financial system and probably quite soon.”

He was referring, in part anyway, to the extreme policy divergence between the Fed and the BoJ and the impact on the yen.

I’d note that Edwards’s cadence (and especially the ambiguous nature of the warning) echoed my own assessment of the situation, as detailed this week in “Yen Sanity,” in which I wrote, of the yen’s longest losing streak since 1971, that

This is an extreme move in one of the world’s most important pairs, and that kind of thing doesn’t just — you know — happen. Or at least not without something else happening. As nebulous as that invariably sounds, it’s the best way to capture the generalized sense of angst one gets from pondering such a blatantly stretched move.

Albert juxtaposed the Fed’s hawkish posturing with equally boisterous dovish “chest-beating” at the BoJ.

The implied divergence, which manifested this week in Jim Bullard floating a 75bps rate hike while, in Japan, Kuroda doubled down on his defense of the BoJ’s YCC cap, is illustrated the two figures (below) from Edwards.

Those speak for themselves. The velocity of the yield divergence and the attendant yen depreciation is off the charts — almost literally.

The bottom line: Kuroda can control yields or the yen. But he can’t control both.

Of course, a weaker yen is a good thing up to a point. Now, though, it’s exacerbating an already deleterious trend in Japan’s trade balance. A string of monthly deficits serves as another reason to be JPY bearish, and with energy prices surging, the ongoing slide in the currency is an amplifier.

The risk — and this gets back to my nebulous warning from Wednesday, as excerpted above — is that the BoJ loses control or, more aptly, voluntarily abandons YCC, as the cost of maintaining it becomes too great on the currency side.

Is that likely? No. Definitely not. But, there is some recent precedent. Albert compared the situation to the RBA’s forced abandonment of their own YCC regime late last year when yields on the target note rose to eight times the cap (here, here and, for the coup de grâce, here).

That episode made for good headlines, but it wasn’t all that consequential for markets more broadly. Suffice to say the forced demise of YCC in Japan wouldn’t be so easy to ignore.