MUFG: The JPY - FJElite

The quarterly Tankan report, released from the BoJ today was stronger than expected and certainly endorses the rate hike by the BoJ in June and strengthens the case for further hikes going forward. The large manufacturers’ diffusion index jumped 5pts to 22, the highest level since Q1 2018 the biggest q/q increase since the recovery period following covid. The BoJ, in particular, will likely take note of the indices on output price forecasts that suggests stronger inflation pressures ahead. The forecast for output prices jumped to 43 in the latest survey, surpassing the peak during the 2022 global inflation shock and to a new record level set in 2022 and matched back in 1980. The BoJ places a lot of weight on its quarterly corporate sentiment survey and will potentially strengthen the case for considering a faster pace of tightening.

That remains a low-priced scenario in the markets with OIS pricing indicating just 6bps of tightening priced for September but close to a full hike by December. The risk to inflation stemming from further yen depreciation is building and hence given the inflation readings in this Tankan report, the BoJ may turn further hawkish.

Vice Finance Minister for International Affairs, Atsushi Mimura, today gave an in-depth interview to Bloomberg and clearly used this interview to counter the view that the intervention by the MoF in April/May was a failure. Of course, if you reconsider the objective of intervention that case can be credibly made. It’s quite likely that at the time the MoF did not view the intervention as enough in itself to turn the yen stronger sustainably and that the objective was merely to curtail or slow yen depreciation. On that metric the intervention does look to have had some success. Looking at G10 FX performance, in H1 the yen is the second worst performing G10 currency. But looking at performance since intervention, the yen’s depreciation versus the dollar is the least compared to all other G10 currencies.

However, the danger is that this curtailed yen selling versus the dollar relative to the rest of G10 does not continue. The MoF rhetoric on intervention has subsided - indeed Mimura today did not mention the threat of intervention in his interview and if market participants sense a shift in strategy, the scale of yen selling could pick up quickly.

With USD/JPY volatility still relatively low (1-month implied between 6-7%, the lowest since before Russia’s invasion of Ukraine), the JGB market relatively stable for now and equities at record highs, allowing a slow grind higher could well be the MoF strategy for now. There is always a risk in low-liquid market conditions on Friday when the US is on vacation that you could see intervention especially if the pace of yen selling was to pick up. The current pace of yen selling appears acceptable and if maintained could see the MoF remain on the sidelines.