The Bank of Japan meets Sept. 18 amid growing bets on a rate hike, and analyst Michael Kramer of Mott Capital Management says its guidance could matter more for U.S. markets than the Federal Reserve's own decision the same week. Traders now price roughly a 72% probability of a quarter-point hike as the yen rallies nearly 2% this week.
The Bank of Japan's Sept. 18 meeting could shake U.S. markets more than the Federal Reserve's own decision that week, according to analyst Michael Kramer of Mott Capital Management. Markets have rapidly repriced the odds of a BoJ rate hike over the past week after hawkish comments from a few of the bank's policymakers, and the repricing has coincided with a sharp strengthening of the Japanese yen across currency markets.
Yen rallies as rate-hike bets build
The Fed's path became clear after Friday's consumer-inflation data, but the case for the yen to strengthen further looks just as strong. On Friday, the yen strengthened 0.5% against the dollar in morning trading and has rallied nearly 2% this week.
Overnight index swaps now imply an overnight rate of about 1.18% for the Sept. 18 meeting, equivalent to roughly a 72% probability of a quarter-percentage-point hike to 1.25% from 1%. The implied rate for the Oct. 30 meeting stands at 1.28%, suggesting some additional tightening is priced beyond September. The first leg of yen strength came from a BoJ rate hike and government intervention aided by the U.S. Treasury Department in late July; the second leg since the start of September has been driven by expectations of a hike at next week's meeting. Kramer notes Japan's 2-year real yield is approximately negative 2%, while the inflation break-even measure sits above 3.3%, readings that suggest monetary conditions remain accommodative despite rising nominal yields — strengthening the case for further hikes.
Why AUD/JPY is the gauge to watch
A hawkish BoJ that commits to further, faster rate hikes could push the yen higher still, which would likely ripple across global markets. Kramer points to AUD/JPY as a key risk-on/risk-off gauge, and the pair is currently flashing a warning sign: the region between 109 and 110 marks an important support area that, if breached, could push global-market volatility higher.
Since 2008, the 26-week rolling correlation between AUD/JPY and the Cboe Volatility Index has been predominantly negative, meaning AUD/JPY has generally fallen when the VIX rises. That relationship briefly turned positive around early March, after the Middle East conflict began and bets grew that higher oil prices would hurt Japan's economy, but it has since resumed its inverted nature. A break below 109–110 in AUD/JPY, alongside rising BoJ rate expectations, would be a warning sign of growing risk aversion across global markets.
Source: MarketWatch
Trading involves risk.
Risk Disclaimer
