FXY - FXY: Government Officials Warn Of Intervention; Take Profits
2023-06-28 12:44:53 ET
Summary
- The Japanese Yen has weakened by over 5% since early May due to the BOJ's decision to maintain its ultra-dovish policies. This is in contrast to other central banks worldwide, which have adopted more hawkish stances towards inflation.
- While fundamentals argue for a weaker Yen, Japanese government officials have begun warning of possible intervention to arrest the Yen's decline.
- Investors who shorted the Yen should consider taking profits now, as the Japanese government may intervene in the FX markets as it did last year when the Yen reached similar levels.
Back in early May, I presented a case to short the Yen via the Invesco CurrencyShares Japanese Yen Trust ( FXY ). With incoming Bank of Japan ("BOJ") Governor Ueda continuing his predecessor's ultra-dovish policies, the Yen was at risk of decoupling from global currencies due to widening interest rate differentials. Since my call, the FXY ETF has weakened by over 5% (Figure 1).
Figure 1 - FXY has declined by over 5% since my article (Seeking Alpha)
While the magnitude of the decline has been modest, investors need to realize 5% moves are actually quite large for currency markets.
Slow BOJ Leads To Yen Declines
The main reason for Yen's decline in recent weeks is exactly what I had predicted. The BOJ chose to maintain its ultra-dovish policies , keeping its benchmark interest rate at -0.1% and maintaining a 0.0% yield cap on 10Yr Government of Japan treasury bonds ("JGBs"), as the BOJ claimed Japanese inflation had not yet reached its target.
At this point, the BOJ is beginning to lose all credibility as both headline and core inflation have been running well above its 2.0% CPI target for months and yet the BOJ continues to maintain the farce that inflation is not yet at target (Figure 2).
At the same time, we see central banks across the world maintain their hawkish stance towards inflation, with both Australia and Canada surprising markets with their recent interest rate hikes. The ECB also raised interest rate by 25 bps in June and indicated further increases are forthcoming. In fact, the U.S. Federal Reserve was the only major western central bank that appear to be waffling like the Japanese, having 'paused' its interest rate hikes in June.
The diverging monetary policy stances between the BOJ and the rest of the world have directly led to the Yen's weakness, with the USDJPY FX rate recently trading at 144 and closing in on last summer's peaks (Figure 3). (Readers should note that Figure 3 below is reproduced from my prior article, with the only change being additional data was added.)
Figure 3 - USDJPY is nearing last summer's peaks (Author created with price chart from StockCharts.com)
Japanese Policymakers Warn Of Intervention
While the currency has traded exactly as I predicted, we are now coming up against the key psychological level of ¥145 on the USDJPY FX rate. Recently, we have seen Japanese government officials start to hit the media circuit , trying to arrest the Yen's decline.
For example, on Tuesday, Japanese finance minister Shunichi Suzuki said that "the authorities were watching market moves with a strong sense of urgency and would respond appropriately" if they deem the declines to be excessive.
In fact, the official that was responsible for last year's FX intervention, Masato Kanda, was recently reappointed for a 3rd year, becoming "just the fourth official in the past three decades to serve a third year as vice finance minister of international affairs". This suggests the Japanese government may yet need his services.
Time To Lock In Profits
Investors short the Yen need to be mindful that at similar levels last year, the BOJ intervened aggressively in the FX markets, so now may be a good time to start locking in some profits on the 'Short Yen' trade (Figure 4).
Figure 4 - Yen approaching intervention levels from 2022 (Financial Times)
Investors who heeded my advice and shorted the Yen via a September 66/63 put spread on the FXY ETF should be sitting on nice profits as the FXY ETF is currently trading at $64.62, well in the money on the top strike with two months to spare (Figure 5).
Figure 5 - FXY September 66/63 put spread should be well in the money (Author created with price chart from StockCharts.com)
Conclusion
With Japanese government officials once again warning of possible FX interventions, I believe investors should look at taking profits on 'Short Yen' trade that I recommended at the beginning of May. While the fundamentals support the Yen trading much weaker, we do not want to give back hard-earned profits when the government intervenes.
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FXY: Government Officials Warn Of Intervention; Take Profits