USD/JPY: Upside potential capped? - Rabobank

In recent weeks the value of the JPY has softened vs. the USD, but as the yen has long been established as a safe haven currency, this is likely to limit upside potential for USD/JPY going forward, suggests Jane Foley, Senior FX Strategist at Rabobank.

Key Quotes

“Broadly speaking we see the potential for further USD gains over the coming months. The Fed has remained consistently hawkish this year while most other G10 central banks have pushed back against market expectations for tighter monetary conditions.”

“At the end of March USD/JPY reached its lowest position since 2016. One of the factors that lent support to the JPY in the early part of this year was market speculation that the BoJ may start to back out of its huge QE programme in the foreseeable future.  This followed a better than expected economic performance by Japan last year and a spate of talks that 2018 would bring a round of policy moves by several G10 central banks.”

“A paring back of QE has consistently been denied by BoJ Governor Kuroda who reiterated in parliament this week that inflation is still distant from the BoJ’s target and that he cannot think of changing the 10 year yield target at all now.  This morning’s news of a worse than expected print for Japan’s Q1 GDP at -0.2% q/q will add gravitas to the BoJ’s dovish tone.”

“While rates spreads suggest that USD/JPY could be drawn higher, the relationship between interest rate differentials and the currency pair is far from perfect due to other influences such as to the yen’s function as a safe haven.”

“At the start of last year the value of the JPY was displaying a fair degree of sensitivity to news regarding N. Korea’s nuclear capabilities. Interestingly the reactions of the currency appeared to diminish through the summer even though the headlines arguably worsened.  In that period risk appetite was so strong that demand for high yield assets seemed to subdue the impact of geopolitical events.  In recent weeks some of the tensions with respect to N. Korea appeared to lessen.  Although this supports the recent gains in USD/JPY, with risk appetite currently at a lower ebb, it is likely that the JPY will respond if geological news worsens.”

“The overnight news that N. Korea has pulled out of high level talks with S. Korea due to a joint military exercise between S. Korea and the US is JPY supportive.  N. Korea’s threats to pull out of the summit with Trump on June 12 are also potentially supportive of the yen.  The ongoing domestic Kake school scandal may also support demand for the yen going forward. Despite our broadly USD positive view, we expect that scope for gains in USD/JPY is likely to be limited given the rise in risk aversion.  We are forecasting a move to USD/JPY 112 on a 9-12 month view.”