Yen Traders Signal Risk Kuroda Falls Short as Volatility Jumps

EghtesadOnline: Bank of Japan Governor Haruhiko Kuroda has never been one to be swayed by market expectation. But this week, investors are leaving him very little room for maneuver.

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31 July 2016

According to Bloomberg, four in five economists predict additional stimulus Friday -- the most since Kuroda presided over his first policy meeting in April 2013 -- with an increase in purchases of exchange-traded funds the most likely option, followed by a deeper cut in the negative deposit rate. After inaction at the previous two policy meetings sparked yen rallies, Citigroup Inc. warns the currency could surge about 5 percent toward the 2 1/2-year high of 99.02 per dollar it hit after the U.K. voted to leave the European Union.

“If Governor Kuroda sticks to the same optimistic economic scenario he’s presented in the past, there’s a risk dollar-yen will break 100,” said Osamu Takashima, a Tokyo-based strategist at Citigroup, the world’s biggest currency trader. “Expectations have built up so much, the yen will eventually strengthen against the dollar whether the BOJ acts or not.”

The yen has retreated as much as 7.5 percent since touching 100 on July 8, before a visitto Tokyo by former Federal Reserve Chairman Ben Bernanke spurred speculation that Japanese officials could opt for so-called helicopter money, even as Kuroda hasrepeatedly ruled it out. Expectations for swings in the currency over one week surged the most since 1995 last Friday, as the BOJ’s decision day entered the time horizon. The difference between implied and realized volatility reached the widest since the 2008 financial crisis.

The intensity of the speculation around a direct underwriting of government spending speaks to Japan’s struggle in stoking consumer prices, which economists forecast declined in June for a fourth month. Investors and former government watchers have expressed doubts about the sustainability of the central bank’s bond purchase program, and people familiar with the matter have told Bloomberg that an increasing number of officials at the BOJ are similarly concerned.

It also comes after the yen defied the consensus among forecasters by rallying 14 percent this year to 105.67 per dollar as of 6:09 a.m. in London on Wednesday. The median analyst forecast at the start of 2016 was that Japan’s currency would drop 3 percent in the first half to 124. Instead, the yen surged in January, and when the BOJ acted at the end of that month with the surprise introduction of a negative interest-rate policy, the currency weakened for just one day.

This month’s helicopter money debate has been fueled by the fact that the government is currently compiling a spending package, which Prime Minister Shinzo Abe has promised will be “bold” and “comprehensive.” Japan’s leader said the government would compile measures next week and the stimulus package will be more than 28 trillion yen ($265 billion), Kyodo News reported.

‘So Certain’

“Market pricing has never been so certain of more easing, so if the BOJ doesn’t act, it’ll be a really big disappointment,” said Daisaku Ueno, the chief currency strategist at Mitsubishi UFJ Morgan Stanley Securities in Tokyo. “It depends on the starting level, but the yen could get back to the cusp of 100 per dollar.”

Kuroda reiterated as recently as April that he retains scope to expand every dimension of the current stimulus framework, and has stuck to a two-year time frame for reaching 2 percent inflation. He said helicopter money wasn’t discussed at a Group of 20 meeting in Chengdu last weekend, and has dismissed the controversial policy as “forbidden.”

At the same time, the BOJ chief has a penchant for reversing course abruptly. Kuroda said the monetary authority shouldn’t implement negative interest rates a month before stunning markets by introducing the policy in January.

The central bank’s own gauge of the yen’s real effective exchange rate climbed this month to the highest since January 2013, months before Kuroda launched unprecedented stimulus.

Japanese companies including Toyota Motor Corp. are warning about the impact of a stronger yen on earnings. In the BOJ’s latest Tankan survey, the country’s big manufacturers assumed a rate of 111.41 per dollar for the current fiscal year. The median estimate from foreign-exchange strategists is for it to end 2016 at 105.

For Mizuho Securities Co., the weight of expectation may be too heavy for the BOJ to ignore, even though there is a view in the market that the current yen level means the central bank doesn’t need to rush to add stimulus.

“There’s the idea that the BOJ has to act now because putting it off risks a sharp surge in the yen,” said Kenji Yoshii, a Tokyo-based currency strategist at the brokerage. “It means that whichever option they take, it’s going to be a surprise for markets.”