The 1 April each year marks the beginning of Japan’s fiscal year which means Japanese companies send money back to Japan which results in Yen strength. Recently one of my students brought to my attention an article on Investing.com by Kathy Lien where Lien commented on the recent Yen strength we saw in March and linked this partly to repatriation flows which she said were mostly completed (View article here.)
Any successful trader knows that fundamentals move the market and that technicals simply provide price levels and price action used to identify where to execute trades in line with one’s macro-economic bias. Due to my highly aggressive goal to conquer this game of Kings and Queens I believe that trading off another analyst’s opinion is limiting and is the same as trading a signal provided by the many signal providers in the forex market. Regardless of whether the analyst or signal provider is correct or not, it does not help me build a case of my own and it certainly does not help me develop a professional opinion that leads to me forming a bias and developing alpha.
My first challenge is Lien’s comment in the article regarding how the Yen traded in previous years. Specifically, her comments about how the Yen traded in 2016 because I remember the Yen strength from last year very well. It goes without saying that my goal for April is to generate a good return while ensuring that my alpha is met with good beta which really means the return is not generated as a function of risk but rather due to a higher move in my long or short trade due to me trading in the right direction and letting my winners run. Therefore, I decided to go and do some research of my own so I can form a professional opinion I would be happy to present to a client if they were investing in my managed fund.
Now I would be a total hypocrite if I was to simply pass on my opinion to you the reader with no explanation of how I arrived at that conclusion. Therefore, to ensure I am giving you a chance to do your own research and develop your own bias, I am going to share the steps I followed.
Firstly, I observed the movement of price in the USDJPY cross rate during April from 2008 to date. Yen strength was observed in seven of the nine years I reviewed with the exceptions being 2008 and 2013. In the years where Yen strengthened, the move occurred on the following days:
2009: Tuesday 7 April – 28 April 581 pips (week after NFP)
2010: Monday 5 April – 19 April 310 pips (week after NFP)
2011: Thursday 7 April – 21 April 387 pips (Day before NFP)
2012: Monday 2 April – 16 April 264 pips (Start of the month)
2014: Friday 4 April – 11 April 279 pips (Day of NFP)
2015: Wednesday 1 April – 3 April 142 pips (Start of the month)
2016: Friday 1 April – 11 April 487 pips (Day of NFP and start of the month)
While the above data does indicate Yen strength entering the market during April, especially in relation to when NFP was released, it cannot be viewed without taking macro into consideration. Therefore, I reviewed all the BOJ and FOMC monetary policy statements for March and April from 2008 to 2016 to determine whether the BOJ and FOMC were causing Yen strength or weakness because of a change to monetary policy. I also want to identify why the Yen did not strengthen during 2008 and 2013.
As we know 2008 was a tough time for America due to the burst in the housing bubble that started in 2007. In March 2008, the FOMC reduced their target for the federal funds rate by 75 bps to 2-1/4 percent and announced that the FOMC would expand its securities lending program which resulted in the yield of the US10Y rallying from 3.42% to 4.31% from March until June 2008. The BOJ made no policy change at their meeting and the uncollateralized overnight call rate remained at around 0.5 percent. The Yen rallied from 95.77 in March to 110.50 in Aug 2008 on the back of the FOMC policy action.
On the 4 April 2013 the BOJ introduced “quantitative and qualitative monetary easing” after having maintained their uncollateralized overnight call rate at around 0 to 0.1 percent which saw the Yen rally from 92.566 in April to 103.734 in May 2013.
2008 and 2013 were the only two years where the monetary policy implemented by either the FOMC or the BOJ resulted in Yen weakness. At all the March and April meetings for the years where Yen strengthened the BOJ and FOMC kept their respective rates on hold with no major policy changes.
Therefore, based on the above data, one can deduce that when there was no reason for the market to price in a policy change by the BOJ or FOMC Yen strength would occur at the start of the April, on the first Friday of the April or at the start of the week after March NFP though in 2008 and 2013 when the BOJ or FOMC communicated they would be taking actions that would likely result in Yen weakness, Yen strength was observed during March and in both cases Yen strength began on the 12 March (Yen was strong all of March in 2008 though profit taking was observed from MM1 on the 11 March with significant strength entering the market on the 12 March leading up to the 17 March when the FOMC released their March policy statement as discussed above.)
These are significant observations because if we now fast forward to 2017, this is the first year since the collapse of the housing market in 2007 where the FOMC are communicating a hawkish rhetoric. Yes, the path towards contractionary monetary policy started in 2015 when the FOMC projected four hikes in 2016 though as we all know their dot plot of four hikes in 2016 was reduced in early 2016 due to global risk and an overshoot in their inflation targets which was brought about by the decline in energy prices in 2015.
Therefore, it is plausible to consider that the Yen strength observed in March was a combination of a flight to safety due to concern over the Trump Administration’s ability to pass promised fiscal policies after the withdrawal of the Affordable Health Care Act and repatriation flows IF the market believes that the FOMC are going to raise rates two (or three) more times this year.
So, then we need to identify if the market believes this or not using fundamental data.
The first fundamental tool is the FOMC. In every one of the FOMC statements the Fed have clearly stated that the future rate path is data dependent and that the data they are watching is inflation reaching their target of 2% and full employment in the labour market. If you read the speeches out of the Fed last week all the members see two hikes as appropriate for 2017 and that’s after the recent “Trump Dump”. It is important to note that in none of the FOMC statements released since November 2016 have the FOMC mentioned taking fiscal policy into account when considering monetary policy action so therefore, while we may see a market correction should Trump fail to pass the tax cuts and fiscal spend he has promised, we would be far better off paying attention to inflationary and labour market data points as an indication of future rate hikes.
The second tool is the Fed Watch Tool which currently indicates that 58.7% of the market have priced in a hike at the June meeting and 58.9% of the market have priced in a hike at the December meeting. That leaves quite a bit of the market not priced in and a few meetings in between June and December that could become live.
The third tool is a website called eFXPlus, a tool that lets you view major banks’ FX trade positions and forecasts, according to eFXPlus 82% of 29 major banks have forecast UDJPY trading higher at the end of Q2 with the lowest market price forecast at 112.00 by Barclays and the highest market price forecast at 122.00 by BOFA Merrill Lynch. In terms of open positions Crédit Agricole, BNP Paribas and BOFA Merrill Lynch are currently long USDJPY at 111.85, 111.30 and 113.35 respectively and Morgan Stanley has placed a buy limit order at 109.50. So big money, smart money, is bullish on USDJPY heading into Japanese fiscal while they are fully aware of the financial flows that take place at this time of year.
The forth tool is the Commitment of Traders Report which shows the net non-commercial positions on USDJPY as net-bearish. I do note a decrease in Yen short positions for the second week in a row and a slight uptick in Yen long positions.
It is important to note that Yen strength entered the market on the 12 March 2017, which match the dates Yen strength entered the market in 2008 and 2013. I cannot confirm if this was due to repatriation though seeing as there was a reason to price in policy change in 2008, 2013 and now in 2017 I believe there is a possibility repatriation could have taken place in March due to the current rate path of the FOMC and that if this is the case Dollar will remain strong and Yen will remain weak leading up to NFP next Friday.
Should NFP be negative or any of the data points used in the NFP model lead the market to believe NFP will be poor I believe we will see Yen strength enter the market – be it from repatriation or an unwinding of the reflation trade.
In conclusion, I will look to buy dips on the Dollar and USDJPY leading up to Friday should price action indicate that the market is in line with my fundamental bias. I have provided some technical analysis below.
Please note that I am not a macro economist though I am doing my very best to understand the subject and the only way to do that is write these types of articles and do loads of reading, researching and home work everyday. I welcome all comments and feedback and appreciate you taking the time to read this post. I spent seven hours writing it. Would have been shorter if my Google Chrome didn’t bomb out with no saved version on the first draft three hours into the article 15 minutes away from being complete 😛 Note to self – write everything on Word first and save at regular intervals.