The Japanese yen has outperformed the U.S. dollar at the end of the year.
It is usually so that a long-distance race is won by not the one, who has been leading most of the time, but the one who manages a final push. In this respect, the yen’s victory in the race for the best-performing G10 currency looks quite reasonable. The USD/JPY bears’ attack after December meetings of the central banks, just as it had been expected, was rapid, sending the pair down to 4-month lows. Neither the Fed nor the Bank of Japan gave the stock markets what they wanted. Finally, Nikkei 225 has been down to the bearish zone, and S&P 500 is close to it.
I have noted many times that Forex prices are defined by the flows of investors’ capitals. High demand of Japanese investors for the U.S. dollar pushed the USD/JPY up to 11-month highs in early October. Following the September meeting, the Fed was planning to hike the interest rate three times in 2019, while the BoJ was not going to finish the cheap money policy. Divergence in the monetary policies and the leading performance of the U.S. GDP over the foreign peers were making purchasing of the U.S. securities quite appealing. However, the things started changing gradually.
Dynamics of USD/JPY and the U.S. bond yields
Source: Trading Economics.
Although the Federal Reserve is trying to ignore Donald Trump’s criticism, one still pays attention to it.
First, Fed Chair Jerome Powell announced the FOMC willingness to put up with the inflation rate above the target; next, he stated that the current interest rate was close to neutral. Amid a slowdown in consumer prices, it looked natural. But for the U.S. president’s comments, investors got really concerned about the Fed’s independence, which became one of the reasons for selling the U.S. equities. Other bearish factors for S&P 500 were a political disability (the White House failed to reach an agreement with Democrats in the Congress, concerning the US-Mexico border) and the Government Shutdown. If unfavorable political environment is added to other problems of the dollar, then the USD/JPY trend reversal downwards stands to reason.
The turmoil in the U.S. equity market spread into Asia. As the yen price closely correlates with the Japanese stock indices, their drawdown by 20% and more from 12-month highs became a strong driver of the yen strengthening.
Dynamics of USD/JPY and Nikkei 225
Source: Trading Economics
What’s next? I expect the S&P 500 to stabilize somehow. The U.S. economy is still strong, borrowing costs have been reduced, and the Fed’s monetary policy is still easy. The interest rate hasn’t yet been even neutral. The U.S. statistics for December reported in January is likely to support the greenback. However, the idea to sell the dollar will come back to the markets in the February-March period. In the middle- and the long-term perspective, the yen should benefit from the problems of the U.S. and global economies; as well as from the end of the Fed’s tightening, amid the Bank of Japan inability to do more than it is already doing. Therefore, I may recommend selling USD/JPY in the rollbacks towards 111.6 and 112.2.