USDJPY To Continue To Soar If US Data Supports

USDJPY set a new high for the cycle at 113.00 overnight even as Japan was closed for a holiday today. There is a small gap down to 112.50 from the Friday close, and for perspective on the violence of Friday’s rally, the daily pivot is all the way down at 111.33. The tactical dips may not prove especially deep as the Bank of Japan Friday initiative caught the market sleeping and many will feel the need to “be on board at any price.”

The knee-jerk belief on this Bank of Japan move in the bigger picture is to believe that this sets off a whole new round of global asset price appreciation of the kind seen under the Fed’s QE3 programme. After all, the potent combination of Japan’s huge GPIF pension fund reallocating a significant portion of its assets to equities and to foreign assets (and isn’t it convenient that all of the Japanese government bonds it will now want to sell will be absorbed by the Bank of Japan’s endless buying...).

This will mean tens of billions of dollars of capital flows swimming around the world looking for a home. But in the end, QE of all stripes remains a confidence game, and the recent very large hiccup in equity markets this year and in emerging markets last year (the “taper tantrum”) show what happens when central banks threaten to withdraw the monetary heroin. In other words, the higher asset markets rise on mindless central bank buying with limited support from the real economy, the more fragile markets become and the greater the volatility risk on the least sign of a blinking central banker.

In other words, this move from the Bank of Japan could risk a scenario in which we zoom to 120, or who knows, even 150 over a surprisingly compressed period of time. Then, the move proves overextended or the BoJ tolls a cautionary bell, and then USDJPY collapses back to 100 in a heartbeat. After all, the JPY’s real effective exchange rate is already at a record low on this last move. And don’t forget about other JPY pairs, as GBPJPY is poised at the highs for the cycle and EURJPY is back up through all local resistance levels and may eye the cycle top above 145 from late 2013.

Removing QE - or merely hinting at it - can whip markets into a frenzy. Photo: Spencer Platt

Chart: USDJPY scenario
If we get particularly strong US data this week and the next month, we could see this aggravated yen sell-off continuing, before either the Bank of Japan itself or other central banks put the brakes on the move some time next year. Keep in mind that the below chart is merely a scenario based on a few rule-of-thumb Elliott Wave projections. The intent is to show the potential volatility risk this new BoJ policy move has sparked.

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Today is global manufacturing PMI day, with the final Eurozone manufacturing PMI revisions up this morning as well as the UK’s reading on its manufacturing sector. The pound has taken the upper hand against the euro again, and the range lows in EURGBP are likely to zoom into view if we get a stronger than expected UK reading. The US ISM could prove rather strong given most regional readings come in on the strong side. The more important non-manufacturing ISM is up on Wednesday and the pivotal employment report and payrolls are up on Friday. Things get interesting there if we finally see a +300k reading, but let’s see.

EURUSD continues to focus lower as long as we trade below 1.2500 in particular, though we might have to allow some local slippage toward 1.2550 if the Eurozone data is more supportive than expected, or if traders are reluctant to pile in to euro shorts ahead of the Thursday European Ventral Bank meeting.

Australia has a busy night overnight, with trade and retail sales data releases and then a Reserve Bank of Australia meeting later. Look for governor Stevens and company to continue to suggest that they are happy with a wait and see approach on the policy rate and the usual complaint that the exchange rate remains elevated.

It will also be interesting if any hint is dropped on the RBA’s view of the BoJ move. The market is actually leaning slightly toward the odds of an RBA cut at some point in the future rather than a rate risk, though this is very modest and the 2-year Australia rates are in the middle of the range of the last few months. AUDUSD is nearing critical levels as the low of the cycle near 0.8650 are also the lows of more than four years.

Stay careful out there and recognize that volatility risk has risen sharply, meaning position sizes should be smaller.

Economic Data Highlights

• Australia Oct. AiG Performance of Manufacturing out at 49.4 vs. 46.5 in Sep.
• Australia Oct. RPData/Rismark House Price Index rose +1.0% MoM
• Australia Sep. Building Approvals out at -11.0% MoM and -13.4% YoY vs. -1.0%/-0.9% expected, respectively and vs. +16.0% YoY in Aug.
• China Oct. Non-manufacturing PMI out at 53.8 vs. 54.0 in Sep.
• China Oct. Final HSBC Manufacturing PMI out at 50.4 as expected and vs. 50.2 in Sep.

Upcoming Economic Calendar Highlights (all times GMT)

• Italy Oct.Markit/ADACI Manufacturing PMI (0845)
• France Oct. Final Markit Manufacturing PMI (0850)
• Germany Oct. Final Markit/BME Manufacturing PMI (0855)
• Euro Zone Oct. Final Markit Manufacturing PMI (0900)
• UK Oct. Markit Manufacturing PMI (0930)
• Euro Zone ECB’s Constancio to Speak (1200)
• Euro Zone ECB’s Nouy to Speak (1400)
• Canada Oct. RBC Manufacturing PMI (1430)
• US Oct. Final Markit Manufacturing PMI (1445)
• US ISM Manufacturing (1500)
• US Sep. Construction Spending (1500)
• Euro Zone ECB’s Nowotny to Speak (1730)
• Canada Bank of Canada’s Poloz to Speak (1750)
• Australia Sep. Trade Balance (0030)
• Australia Sep. Retail Sales (0030)
• Australia RBA Cash Target (0330)

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Written By: Saxo Bank