The Bank of Japan, as it always does, surprised markets by moving the benchmark rate into the negative territory at -0.10% and the USD/JPY strengthened more than 300-pips.

Reaction in the Japanese markets

  • USD/JPY up more than 2%
  • Japan now has negative yields on 7-year government bond
  • Nikkei closed with 2.8% gain. 

Moderate risk-on, but no fireworks

  • The equities across Europe rallied. The DAX was up around 0.60% before the US opening bell, but has now extended gains to trade 1.4% higher. The Dow also advanced 1.2%. 
  • Meanwhile, the GBP/JPY and EUR/JPY are up 1.3% each. 
  • US treasury yields dropped. The 10-year yield fell to four month low, while the 2-yr yield hit three month low
The markets have reacted positively; however, the risk-on is not as strong as seen in the past. BOJ’s easing usually leads to 3% gains in the major equity markets across the globe, while the JPY fell sharply across the board. This may be due to markets slightly cautious as –
  • BOJ moved to uncharted territory and 
  • Speculation the bank is no more comfortable with purchasing more JGBs and hence resorting to negative rates. 

GBP/USD drops sharply, BOE rate cut ahead?

  • The GBP/USD is down 1%. The high yielding currencies – AUD, NZD are unable to do much against the USD 
  • The negative rate in Japan means more outflows from Japan in search of high yields. This should have led to a much sharper rally in the JPY crosses – GBP/JPY and thus should have lend support to the GBP/USD pair. 
  • However, the cable is down 1%, which clearly indicates the markets believe negative rates in Japan would force the Bank of England to delay its rate hike even further. 
  • EUR/USD is down as well, again due to speculation that ECB would have to do more. More pressure on the ECB also means pressure on the BOE. BOE benchmark rate stands at 0.5% and the bank certainly has room to cut rates, given the ECB, SNB and BOJ are in the negative territory. 
  • We have already seen BOE make a transition from “rates could rise at the turn of the year” to “now is not the time to hike rates” on account of low inflation and strong GBP. The transition was anticipated here ( last year in March. 
  • Hence, it would not be surprising if the BOE actually moves towards rate cut now. 
Even the derivative markets hint at a chance of a BOE rate cut now. UK derivatives markets earlier this week priced in a marginal chance of a cut in Bank of England interest rates in the next six months. 

Stay tuned as the marginal chance could become a certainty in next six months amid retaliation and counter retaliation from major central bankers. 

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