Will the Fed and BoJ move in opposite directions? - Commerzbank

In the coming week, the Fed and the Bank of Japan (BoJ) will convene for their policy meetings, and according to Thu Lan Nguyen, analyst at Commerzbank, these will essentially determine further developments in USD and JPY exchange rates.

Key Quotes

“The US dollar has seen large gains in the last few days, with tailwinds coming from rising rate hike expectations in particular. The market-implied probability of a rate hike by the Fed by the end of this year has now almost returned to levels seen before the Brexit referendum. One reason for this is that markets have generally calmed since the Brexit shock, which means that global risk perception has declined significantly. What is more, recent US economic data having surprised to the upside has restored investor confidence in an imminent rate hike by the US central bank.”

“A continuation of the positive USD trend now essentially depends on whether the encouraging developments in economic growth and inflation will continue and whether the FOMC will confirm the positive outlook of investors next week. In our view, the US dollar still has remarkable upside potential. After all, market participants still accord a probability of less than 50% to a rate hike this year. Should the Fed really act in 2016 – as we expect – this would still take many investors by surprise.”

“Next week will also get exciting with regard to the JPY exchange rates. The depreciation of the JPY versus the USD in recent weeks was not only due to the general dollar strength. Another factor that has been exerting pressure on the yen is speculation that the Bank of Japan (BoJ) will ease monetary policy further at its meeting next Friday. Since market expectations regarding the BoJ are now quite high – not least because Prime Minister Shinzo Abe gave prospects of “broad, bold measures” after his victory in the upper house elections – there is considerable potential for disappointment here. Should the BoJ ease monetary policy only moderately, or even leave it unchanged, we would probably see a sharp downward correction in USD/JPY.”