I was on CNBC Power Lunch this afternoon talking about the Japanese Yen and intervention risk.
Prime Minister Kan won the elections last night and Yen traders have interpreted his victory to mean a more relaxed approach towards intervention. This may be true when compared to the pro-intervention stance of Ozawa (his challenger) but the rapid appreciation in the Yen against the U.S. dollar AND the Chinese Yuan has also made Kan more likely to intervene in the currency. Even if he was not actively considering physical intervention to weaken the Yen before the elections, he will have warmed to idea when he wakes up in the morning and finds USD/JPY trading below 83.
Yen Strong Against the Dollar and Yuan
Although we are all focusing on the USD/JPY rate, which is trading at its weakest level since April 1995, the Yen is also trading at a record high against the Chinese Yuan despite the fact that Yuan has reached a record high against the U.S. dollar. The recent strength of the Yuan increases the pressure on Japanese government to intervene in the Yen because it reduces the competitiveness of products made in Japanese over China.
USD/JPY Tracking Yields
USD/JPY is also breaking down because U.S. yields continue to fall. Goldman Sachs made the bold call this morning that the Fed could announce additional asset purchases in November and it is having a significant impact on the financial markets. The retail sales number also failed to make U.S. investors more optimistic about the recovery.
At this point there is no major support in USD/JPY until its record low of 79.75.
Time for Intervention?
However I don’t think that the Japanese government will let USD/JPY fall to its record low of 79.75 without intervening. I have been skeptical of calls for intervention since July when USD/JPY fell from 88 down to 83.00. However, everyone has a bottom line, or a point at which they will eventually cry uncle, and for Japan, this level should be around 80, right above the currency pair’s 15-year low. Never before had the Japanese government let USD/JPY fall below 79.75, which was not only the April 1995 low, but also the record low. Now that USD/JPY has fallen below 83, the risk of intervention has increased ten fold and I expect that we’ll go from empty threats to a real battle against yen strength. USD/JPY has now entered the intervention territory which is between 82 and 79.75 and the Bank of Japan could come into the market at anytime. Anyone who is long the Yen needs to be very careful.
The latest CFTC data shows that long yen positions are near record highs, which is exactly what the BoJ likes to see before they intervene in the currency because it provides the best bang for the buck as the stopping out of these short positions will exacerbate the rally in USD/JPY.
If you have read the international papers, you may know that there are two political developments that is worth paying attention to.
On August 21st, Australia held general elections for Prime Minister and if you recall, the votes were so tight that nearly 2 weeks later, there is still no clear winning. The country is in a political deadlock but thankfully this matter could be resolved in the coming week as Julia Gillard secures the support of a key independent Member of Parliament. Given how long the process has been drawn out for, the Aussie may rally as long as there is winner.
Meanwhile Japan has a leadership election within the Democratic Party on September 14th. This is not an open election but a secret ballot. The former secretary general of the ruling Democratic Party of Japan, Ichiro Ozawa, has already begun his campaign against Prime Minister Naoto Kan. Ozawa pledged direct government intervention in the currency market in his policy platform stating “as for any sharp rises in the Yen from now on, I will decisively take all possible measures including market intervention to protect Japan’s economy.” Elections for the top DPJ post are slated for later this month and if Kan loses, Ozawa would become Japan’s sixth Prime Minister in 4 years.
Based upon his comments, the Yen has become one of the key political platforms that Ozawa is running on.
This may pressure Kan to act on the Yen before the election if only to keep his job. Ozawa also promised 2 Trillion Yen or $23.7 Billion in economic stimulus, a measure double the size of that planned by Prime Minister Kan. To Kan’s credit, however, he intensified his tone of Yen comments by telling reporters today “excessive movement in the currency market is bad for the economy and financial markets,” and “I have the utmost recognition of this. We will take decisive action when necessary.”
A win by Ozawa would probably be positive for USD/JPY and negative for the Japanese Yen in particular because of his criticism against a strong currency.
Is the Bank of Japan stepping things up? In a very unusual move, BoJ Governor Shirakawa said earlier today:
“There are substantial fluctuations in the foreign exchange and stock markets mainly against the backdrop of growing uncertainty about the outlook for the U.S economy. The Bank of Japan will carefully monitor such developments and their effects on Japan’s economy”.