Fed to cut. Will the BoJ hike and take the yen stronger?
The desk anticipates a shift in market dynamics driven by potential Fed rate cuts and a possible Bank of Japan (BoJ) rate hike, which could strengthen the yen. Per the full note from MUFG EMEA, the recent US jobs report has heightened expectations for Fed easing, while BoJ Governor Ueda's recent comments suggest a readiness to adjust monetary policy, potentially in December. This dual narrative could lead to significant volatility in USD/JPY as traders recalibrate their positions in response to these central bank signals. With no high-impact events scheduled in the next 30 days, market focus will likely remain on these evolving narratives.
What the desk is arguing
MUFG emphasizes that the latest US jobs report supports the narrative of slowing wage growth, which may in turn enhance expectations for Fed rate cuts in the near future. This dovish outlook on US monetary policy contrasts with the Bank of Japan's emerging signals of potential rate hikes, suggesting a divergence in central banking trajectories.
Given these dynamics, the yen could appreciate if the BoJ decides to implement a rate hike by December, as anticipated from Governor Ueda’s recent comments. Markets are positioned for potential appreciation in the yen against the backdrop of softer USD rates, suggesting a shift in investor sentiment.
How firms align with this view
Aligned with the desk view
Contrary positioning
Key takeaways
- 01Fed's dovish tilt may lead to lower USD value as rate cuts are anticipated.
- 02BoJ's signaling of potential rate hikes could strengthen the yen significantly.
- 03The divergence in monetary policy between the US and Japan is pivotal for FX positioning.
Market implications
Expectations of a Fed rate cut may lead to a weaker dollar, creating opportunities for yen appreciation should the BoJ follow through on interest rate changes. This shift highlights the need for investors to realign their FX strategies in anticipation of these events.
Risks to this view
Key risks include a lack of decisive action from the BoJ, which could undermine the yen's perceived strength. Furthermore, any unexpected strong economic data from the US could bolster the USD and complicate these currency dynamics.
Welcome to the MUFG Global Markets FX Week Ahead podcast with Derek Haralpenny, Head of Research, Global Markets Zemea and International Securities. It's Friday 6th December 2024 and joining Derek to post some questions on the financial market themes for the week ahead is Chris Jakabowski, Director of Institutional FX Sales. The following podcast is intended for professional investors and eligible counterparties only and not for retail clients.
Any content should not be regarded as an offer to conduct investment business or an investment recommendation, but for information purposes only. Hi Derek, how are you? I'm good, Chris, and you?
Yeah, very well, thank you. It's been an entertaining week, and not least today when we can kick things off with the NFP. We had a decent headline, but unemployment was up.
Looking at the markets, it feels like they've looked at that more than anything else. The dollar is tending weaker again, with dollar-yen coming off nearly 120 pips when I looked at it last. Anyway, the front end really is pricing in December now properly for the Fed.
What are your thoughts on the numbers? Do you think it was weak as the rates market has seen it, and should we be focusing more on the unemployment, or should we be looking at another reasonable consensus, if not above-headline NFP number? I think in explaining the market reaction, I guess the Fed's communication so far has been it's in the dot profile.
If things are as we anticipate, I think there was a good chance that they were going to cut. In other words, what you were going to have to guess, either today or in the CPI next week, is a blowout upside surprise. It wasn't a blowout upside surprise.
It certainly wasn't a weak report, but I agree with you, Chris, looking at the way the markets reacted. It would seem that way, but I think it's just the reality of they're going to cut in all likelihood. There's one hurdle in that that's now gone.
Do you think the CPI is another hurdle there, though? Because everyone's now focusing to that. They're saying that's the last one there before that could really provide anything that might upset the apple cart in regards to them.
It's the only obvious top-tier piece of information that would shape them. Governor Bowman, she was on the wires just after payrolls came out and said that inflation is the primary objective and cautioned against cutting too quickly in terms of inflation. The markets aren't hugely surprised with that.
She's already dissented. Nonetheless, it's the last piece of information that could sway them one way or the other. We're at, what, 22 basis points price now?
I think it would take a real shocker to shift the markets at this juncture. There were some weak elements within payrolls as well, like the household survey. There was a 355,000 drop in employment.
Last month in October, there was a 368,000. Now, the two reports often diverge, but some weak elements there. Then, of course, the whole radar is now on government jobs, given Doge and Elon Musk and what they're talking about doing and forcing return to office on public sector workers.
That's going to certainly shift people out of the public sector and be looking for jobs in the private sector, which is certainly disinflationary. How quickly Doge can get that momentum going is still up for debate. Nonetheless, when you look at today's payrolls, once again, government jobs was 33,000.
Last month, it was 38,000. We're in the 30s, 40s every month in terms of government jobs. If you assume that flips to negative- I saw 50K negative, potentially, right?
If you assume that that number is absorbed into the private sector, all well and good, but it's still disinflationary when it comes to wages. I was thinking that. Trump likes a headline.
He likes the markets going up. How do you think he'd react to that? There being a drag in the data.
Everyone loves the NFP, whether it is as important as the market hypes it up to be. If that starts dragging and it's something that he has direct control over, do you think he might loosen the grip somewhat on the efficiency profile of government and say, look, we need to employ- and basically switch on that? Yeah.
This comes back to- and it's one of the reasons why we've got the dollar weaker later next year. To answer your question, that's all dependent on how strong the private sector is. If the private sector is relatively strong and can absorb these jobs, as long as you don't get negative payroll prints, Trump's probably not that bothered.
But if the private sector is weaker than anticipated and you end up with potentially negative prints reinforced by government job losses, then Trump is going to be bothered by that. I think that would certainly change the dial in terms of how aggressive the Doge impetus into reform and cost cutting could be. Really, that's where I think the markets are maybe being a little bit overly optimistic in terms of Trump influence on macroeconomics.
Because if you consider lags on policy changes in general, the 12-month horizon is pretty much already baked in, largely speaking, in terms of the cycle that's in place. And given the restrictiveness of monetary policy, given the fact that the labour market is decelerating and weakening, and that was confirmed in today's data, when you look at it on a trend basis, that means after maybe a sentiment bounce in terms of business sentiment and consumer confidence, which could be transpiring now over the next couple of months, the kind of macro cycle forces, I think, are still really important. And that keeps the Fed cutting next year.
And we're in a very different place than where we were in 2017, when the US economy was picking up and the Fed were starting to hike. So that's where I think the markets are maybe being a little bit overly optimistic. And maybe the markets are starting to realise that now because, of course, two-year, 10-year rates are down 30 basis points from their peaks.
I mean, I think that is basic. Because going back to the NFP at the start of the call of this podcast we were having, it wasn't like a huge shock. But yet it feels like everyone's been positioned heavy in dollars, in the rates higher.
It feels like going into year end, people are just taking off. Everyone wants to sort of fade any dollar strength it feels like. And it feels like the market is finally getting to a place where they're like, OK, I think it's probably going to be a resumption lower in the dollar given those macro forecasts and stuff.
And it just feels like the dollar has been pushed up through positioning. It's too heavy now in dollar long and short rates. And it's just going to come undone again.
Yeah, I agree. If you take the starting point at the beginning of October, OK, we had a good payroll support. The Trump trade started to come back in early October.
And if you take that point in time, we've had a big, big move in rates. And also, the dollar on a DXY basis was nearly 7% over that period. So that's a big move over a relatively short period of time.
And as you said, now you're going into year end. There's probably a decent kind of incentive to pair some of those. Yeah.
OK, great. So putting CPI to one side and the US to the side for the minute, let's turn our attention to Europe. Just quick thoughts maybe on this sort of French upheaval, classic revolution, should we say?
And then what you think about the ECB as well that's coming up next week? Yeah, on France, given what's happened to the OET bond spread, it seems like it was a kind of a buy the rumor, sell the fact scenario there. And I'm not surprised in a way that the OET bond spread didn't continue to extend out because there's a clear kind of picture in terms of what happens next.
No matter what happens politically, there's a mechanism there for legislation to be brought in to carry on with the 2024 budget into 2025. So it's not like the US where you go into a potential government shutdown because there's nothing legally in place. So you have the potential fiscal slippage over the period of time until you have something in place.
And in that sense, from a fiscal perspective, while it's not good, it's neither is it disastrous. But having said all of that, you're still in an extremely difficult position. Best case scenario, you pick somebody who can manage to get the support of Parliament.
But given the fact and to get some kind of budget through that maybe... Marine Le Pen has come out and said, look, we'll be supportive of something that's not so aggressive in terms of narrowing the budget deficit. So best case scenario, you get something through.
But there's always going to be this lingering threat of a collapse of the Parliament come the 12-month period when another general election can take place. So there's that. And then on the ECB, yeah, 25 basis points, done deal.
No way. I think they're even contemplating 50, to be honest. Like there was...
Wage data has been incredibly positive. And I was reading their interesting stat from the Institute of Economic and Social Sciences in Germany, the collective bargaining wage deals this year, 5.5%. Wages in real terms this year estimated at 3.2%.
That essentially recoups around half of the lost spending power over the three-year period before that, through the inflation shock. So there's still a ways to go. But that one year of pretty solid real wages, real income growth is going some way to getting us out of that.
So, you know, the 2025 outlook is still grim. It's the same across Europe. It's still grim.
But again, another reason why we're not so bearish on the euro and think it could go higher in the second half of next year is that, yeah, for all the negativity around tariffs, you have pretty solid real income growth. And that, from a domestic perspective, should be a support. So where is your euro?
Over the euro zone. Well, we've got it down to close to parity in Q1 and then moving back to 108 by the end of the year. So, yeah, a little bit higher than where we are today.
But, you know, we still think that there's another leg lower. Trump's going to be pretty aggressive when he comes in. And I spoke about that sentiment bounce.
So consumer confidence, business confidence, likely to see a bounce. You know, all this kind of positive sentiment about what Trump's going to do. And that could come through in the data and, you know, help push the Fed.
That's in survey data probably, right? Yeah, yeah. But, you know, sentiment can help activity as well.
But, yeah, so that could push the Fed into a longer pause, maybe be a bit more cautious. But I think, as I mentioned earlier, those cyclical forces come back into play. And then the Fed, you know, they come back to start cutting.
And there's too much price for the ECB, by the way. I don't think they're going to cut to the degree that's priced into the Euro. Yeah.
OK, great. And then let's turn our attention to Japan. I can't let you get away with not talking about that.
So the week started, obviously, with a Nikkei interview with Ueda that got the markets very excited, at least on my side of the business, where he sort of said that rate hikes are nearing in the sense of rate hikes are nearing in the sense that the economic data are on track. For him, I guess it was taken from the market in the sense, for him, that's pretty hawkish. And also, normally, when the BOJ do something so calculated, it can potentially mean that they are trying to get the market ready for some sort of action.
What's your read on this? First, this point and not maybe the Nakamura comments later, which were a little bit more nuanced. But what's your read on him coming into the market?
And first of all, having that interview, what do you think he meant from that? Or should we, should December be live or are we still targeting January? No, I think December is definitely live.
We originally were December, then we moved to January and now we've moved back to December. I guess the flip, the flipping from us, I guess, highlights the highly balanced kind of decision that this is. But Ueda on Monday, I think the purpose was to keep December alive, but not tie themselves into it.
And he himself said, you know, there's no guarantees in terms of December because there's still a lot of data to analyse between now and then. So in terms of that, or what you sometimes get from the BOJ is this kind of last minute hint through the media that, you know, they're going to hike or whatever. We're way too far ahead for that.
You know, when he spoke on Monday, we still needed to see the payrolls, inflation prints, the Tanken, wage data, which has come out from Japan, and then the actual FOMC meeting, which is less than 12 hours before the BOJ meeting, and all the data associated with what the Fed might do. So there's a lot to get through between now and then, but I think his comments were indicative of we're on track, as you said, and that December is live. It's an option for sure.
Now, what was confusing, ignoring Nakamura's comments, is these Gigi Press and MNI stories that have come out suggesting they're more cautious and they don't want to hike. And MNI was saying if Dalian has to get back up to north of 155, 160, for them to be coming back in considering December. And Gigi was talking about the BOJ wanted to assess post-inauguration policy decisions from Trump.
Yeah, well, he did kind of talk about it in the interview, actually, as well. He did talk on Trump, didn't he? He did, but to give themselves time to assess Trump's initial policy steps, if you consider the January meeting is four days after inauguration, well, then January's out as well.
So then you're talking March 19th. And going back to what you said, what Ueda said at the beginning, that we're nearing the next rate hike, that's not consistent with that. So it's either December and January, and we would argue because of the complications with January coming four days after inauguration, assuming the data like the time on Monday, the wages yesterday were certainly consistent with the hike, or falling towards December, in our view.
But what do you think on the, because it's, you know, interesting how he sort of caveats the Trump bit as well, but also he caveats the fact that, you know, if yen weakens further, and if inflation is above 2%, we might see countermeasures. You know, given that we've, you know, where we started the conversation earlier, that we're seeing like dollar yen coming off 100, 120 odd pips just now, and it's broken through back through 150. You know, do you think that takes the pressure off?
And they might think, oh, well, you know, actually, it's lower now, we can't use that as a reason. Do we wait a little bit longer? Do you think that, I guess, long winded question or saying, do you think the dollar yen level matters?
It does, for sure. But again, it's in a way, a reflection of those international factors that are important. So obviously, I think if dollar yen was to continue falling, you know, maybe you got more disappointing data and more price for the Fed beyond December, I don't know, or risk off or, you know, whatever would push dollar yen lower.
But again, like with a lot of these questions you've asked, Chris, scale and extent matters. And the scale of the moves that we've been having in dollar yen, to me, aren't big enough to sway them one way or the other. You know, if, come back to me if we're at 145, then I think, yeah, maybe it does have an issue.
But I think popping between kind of 140-ish, 150, 51, you know, that's not going to sway them one way or the other, I don't think. Yeah. Yeah.
Yeah. And what's our, so our call is December, and then thereafter, are we still going Q3, roughly, maybe another 25 then, or? Yes.
Yeah. Yeah. So essentially, we're talking about getting to 1% by the end of next year, which we would describe as kind of within the lower range of what they might consider as neutral.
So, yeah. And again, you know, there's risks to that. Personally, I would say the risks are that they don't get to that level, given what I said to you earlier about the US.
And I'm not as optimistic on the US economy later next year. So rates are lower. And that, coming back to the dollar yen issue, if dollar yen goes down faster than maybe what we're assuming in our forecasts, then I think maybe they may not do as much as that.
But, you know, certainly the wage data this week was very good. The Rengo indications are that they're going to be pushing for 5% in the Shunta wage negotiations starting in spring. And if we get something like the final Shunta figure last year was 5.24%, we're not going to get that.
It'll definitely be lower. But it'll be higher than the previous year, which was 3.6%. So 4-point-something high for us is still pretty good.
And I think enough for the BOJ to believe, you know, the whole wage price spiral that helps prove inflation can become consistent and persistent. Yeah, that would sit with that. So they want to get the wage negotiations, get them through, maybe see a bit of wage data beyond that like they did last year.
And then assuming international environment is OK with Trump, you know, who knows, then there is the potential then to go further. Yeah. Yeah.
OK, great. Well, that's my questions. And finally, maybe question to you is maybe is there anything else that you're watching that I've missed or do you think we've covered the majority of it?
We've covered everything. We've just put out our FX Weekly. So listeners can take a look at that on the website.
We've cut our euro dollar short. So we've had that in place for a while. So we've cut that, taken profit.
And we still like to be long dollar. What was the drive for cutting that then? Just think that momentum is fading.
Also, there's a pretty strong bias. I don't want to call it seasonal because, again, in our FX Weekly, our quants analyst has broken out the extrapolating what's behind moves. And his conclusion is that it's not necessarily seasonal in terms of the constant pattern of euro dollar being higher in December.
And it's more kind of a trend and behavioral, et cetera, et cetera. But, you know, eight of the last 10 years, euro dollar has been higher in the month of December. Yeah.
So momentum is just fading. And we think, yes, next week is priced in terms of the ECB cutting. So we just thought we'd cut that.
But CAD employment data came out today as well. While the employment figure was decent, there's a big supply of labor that is putting downward pressure on wages, upper pressure on the unemployment rate. So the unemployment rate jumped to 6.8 percent, which is the highest, if you exclude COVID, obviously, it's the highest unemployment rate since early January 2017.
There was a much weaker wage print as well today. So, you know, disinflationary, lower inflation risks. The Bank of Canada can cut again by 50.
And then, obviously, Trump on top of that. We're through 140 anyway. We're now consolidating above 140 in dollar CAD.
So, yeah, we know we wanted to still have a long dollar position. So we thought CAD was a good one after the jobs data today. Sounds good to me.
Right. Thank you very much, Derek. OK, thanks, Chris.
Have a good weekend. And you. Cheers.
Bye. Thank you for listening to this MUFG Global Markets podcast. Rate, review and subscribe and contact your MUFG sales rep for more information.
Come back next week for more insights from the Global Markets research team.
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