Wednesday, 11 September 2013

Dollar Continues Gain on the Yen

Ralph Shell, Excel Analyst

The immediate threat of a US strike in Syria has been removed, and the bears are retreating.  Perhaps, however, the markets simply want to work higher, as there is no assurance this plan will work. 

Consider the opinion of Con Coughlin in the Telegraph:

"The only drawback with this otherwise responsible approach to limiting the effects of the Syrian crisis on the rest of the region is that, as with so many UN schemes, it is completely out of touch with reality. For a start, not even the Russians, with their favoured-nation status in Damascus, will be able to guarantee the safety of any teams of UN inspectors sent to dismantle the weapons stockpiles.

Nor do we have any assurances that Assad will not indulge in the same delaying tactics that the Iraqi dictator Saddam Hussein used in the Nineties to prevent inspection teams from making a full assessment of his WMD capabilities."

It seems we have all the players signed up for a game of kick-the-can containing the Syrian problems down the road, for the moment.  But this is a civil war.  With almost 23 million people in Syria, and numerous different religious sects, all convinced only their sect has the inside track to life hereafter, it is best not to get too excited about the latest solution.

During troubling times, nervous traders are hiding their assets.  US Treasuries and the USD are claimed to be the premier safe haven.  Perhaps this is one of the reasons we saw over a 50K contract increase in USD futures in the last COT report.  But the USD is not the only safe haven.  Some use the SF, a Scandinavian currency, or even the euro or the yen.

Considering the yen's weakness in the last ten months, and the commitment of PM Abe and friends to weaken the yen we suspect the safe haven yen buyers have learned their lesson.  Market action during the latest potential conflict may have confirmed this.

When we last visited the yen about a week and a half ago, we noted the yen chart was coiling into a triangle.  Often, markets that coil into this pattern have a high-energy move when the breakout comes.  At the time we thought the yen would break to the downside (get stronger) versus the USD, however we did suggest it was best to wait for the breakout.

Our caveat was an equity saver as the yen lost to the USD, when the dollar went from about 98.20 to 100.50, where it is now trading.  Obviously the trend is up for the USD versus the yen, but do we buy it here?

One of the global financial stories currently playing out is the Bernanke taper, or the gradual withdrawal of monetary stimulus. In anticipation of the taper, interest rates have risen.  Currently, the US ten year is on the cusp of 3%.  The chances are the market has already discounted the impact of the minimal pending change. 

What remains anomalous is the spread between the Japanese and the US 10-year yields.  Currently, the yield is .74% in Japan and 2.95% in the US.  Granted, the Japanese yield is low because of their version of quantitative easing, and there is buying some off shore buying of their equities. 

How long will this continue?  According to Bloomberg:

"The country’s outstanding public debt including borrowings reached a record 1,008.6 trillion yen ($10.46 trillion) as of June 30, up 1.7 percent from three months earlier, the finance ministry said in Tokyo today. Larger than the economies of Germany, France and the U.K. combined, the amount includes 830.5 trillion yen in government bonds."

Click to Enlage USDJPY Weekly Forex Chart
USDJPY Weekly 10 September 2013, Excel Markets Analysis

So we have a country awash in debt, yet they are paying very low interest rates and a currency that has weakened.  Is this not a recipe for a crisis?  The largest holder of the Japanese debt is Japan Post Holding Company which holds about ¥200T.  They claim they intend to hold the bonds to maturity, but, with a public offering scheduled in 2015, the temptation will be to get some higher-yielding paper. 

Click to Enlarge USDJPY Daily Forex Chart
USDJPY Daily 10 September 2013, Excel Markets Analysis

Other companies such as Sumitomo Mitsui Financial Group, and Miitsubishi UFJ Financial Group have been parring their holdings.  What if others do the same, selling the JGBs, sell the yen and buy higher-yielding paper in the US or Australia?  Continuing, when will the global equity money managers stop buying Japanese equities because the potential currency loss exceeds what might be made in the Nikkei 225?

Click to Enlarge USDJPY H1 Forex Chart
USDJPY H1 10 September 2013, Excel Markets Analysis

Perhaps in the short term the USD gain on the yen is over-extended, but we think there can be more weakness in the yen ahead.  Should the market back off toward the 99.60 level, we would be a buyer.  For those who bought the break out, congratulations, and wait for a retest of above 103. 

As always, manage your money.
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