A trick or a treat from the Bank of Japan: an indirect way of scrapping the YCC
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<li><strong>BoJ has subtly removed the 1% “hard-capped” upper limit of the 10-year JGB yield which suggests an imminent end to YCC may come sooner than expected.</strong></li>
<li><strong>Upbeat revised inflation forecasts for FY 2023 to FY 2025 gave a boost to the Japanese stock market where the Nikkei 225 has managed to stage a rebound from its key 200-day MA acting as a support at 30,490,</strong></li>
<li><strong>The JPY has ignored the indirect mild hawkish guidance from BoJ, and the JPY is the weakest major currency (-1.10% intraday) so far against the US dollar.</strong></li>
<li><strong>The current 2-year/10-year yield premium spreads between US Treasuries and JGBs have narrowed which does not support the current bullish tone seen in the USD/JPY. </strong></li>
<li><strong>Watch the 150.90 key medium-term resistance on USD/JPY. </strong></li>
</ul>
<p>The Bank of Japan (BoJ) has kept its key policy short-term interest rates unchanged at -0.1%, the sole major central bank that still maintains negative interest rates while the rest of the developed world has already exited from accommodative monetary policies except for China.</p>
<h2><strong>10-year JGB yield is no longer hard-capped at 1%</strong></h2>
<p>Interestingly, BoJ has now introduced another “innovative” way of communicating its forward guidance on its monetary policy by the removal of its 1% hard-capped upper limit of the yield curve control programme (YCC) on the 10-year Japanese government bond (JGB) yield via a redefinition of the 1% as a “loose upper bound” rather than a rigid ceiling.</p>
<p>Also, it has removed the pledge to guard the 1% level on the 10-year JGB yield which in turn put a stop to its daily unlimited bond buying operation.</p>
<p>It seems to be a sneaky move by BOJ, instead of choosing to increase the upper limit of the YCC to a higher “hard” upper limit of 1.5%, it chooses to now use the 1% upper limit as a reference with the “nimbly conducting market operations” balloon box pointing above the 1% reference level (see Figure 1).</p>
<p><a href="https://www.marketpulse.com/wp-content/uploads/2023/10/new-YCC-ultra-flex.png"><img loading="lazy" class="alignnone wp-image-808445 size-large" src="https://www.marketpulse.com/wp-content/uploads/2023/10/new-YCC-ultra-flex-1024×725.png" alt="" width="700" height="496" srcset="https://www.marketpulse.com/wp-content/uploads/2023/10/new-YCC-ultra-flex-1024×725.png 1024w, https://www.marketpulse.com/wp-content/uploads/2023/10/new-YCC-ultra-flex-300×212.png 300w, https://www.marketpulse.com/wp-content/uploads/2023/10/new-YCC-ultra-flex-768×544.png 768w, https://www.marketpulse.com/wp-content/uploads/2023/10/new-YCC-ultra-flex.png 1134w" sizes="(max-width: 700px) 100vw, 700px" /></a></p>
<p>Fig 1: New ultra-flexible yield curve control programme on the 10-year JGB yield (Source: Bank of Japan)</p>
<p>It is the third time since last year December that BoJ has adjusted the effective upper limit of the 10-year JGB yield which clearly suggests the ongoing challenges it faces in maintaining the YCC as it owns more than 50% of outstanding JGBs since the start of the YCC programme in September 2016 that led to an increase in microstructure risk of the JGB market.</p>
<p>Hence, it is an indirect way of upping the upper limit without a new higher “hard level” so that BoJ will not be trapped next time or gamed by speculators if they want to exit YCC completely soon without triggering a potentially disorderly scenario that may trigger negative repercussions in the global financial markets.</p>
<h2><strong>Upbeat inflationary forecasts boost positive sentiment in the Japanese stock market </strong></h2>
<p>In addition, upbeat inflationary (core-core) forecasts were revised upwards for FY2023 (3.8% y/y vs 3.2% y/y in July), FY2024 (1.9% y/y vs 1.7% y/y in July), and FY2025 (1.9% y/y vs 1.8% y/y in July) indicate a slight hawkish forward guidance which suggests that monetary policy adjustment away from short-term negative interest rates remains on track in the first half of next year which in turn negates imported inflation via a stronger JPY that is likely a boost to consumer sentiment.</p>
<p>The <a href="https://www.oanda.com/sg-en/trading/indices/">Nikkei 225</a> has reacted positively and managed to bounce off the key 200-day MA acting as a support at 30,490 for the third time in the past week. In the short to medium term, domestic demand-sensitive sectors such as Retail Trade, Banks, and Financials are likely to see potential positive reactions due to a boost to consumer sentiment and a steeper JGB yield curve (see Figure 2).</p>
<p><a href="https://www.marketpulse.com/wp-content/uploads/2023/10/JP10Y-JP02Y_2023-10-31_18-32-35.png"><img loading="lazy" class="alignnone wp-image-808446 size-large" src="https://www.marketpulse.com/wp-content/uploads/2023/10/JP10Y-JP02Y_2023-10-31_18-32-35-1024×589.png" alt="" width="700" height="403" srcset="https://www.marketpulse.com/wp-content/uploads/2023/10/JP10Y-JP02Y_2023-10-31_18-32-35-1024×589.png 1024w, https://www.marketpulse.com/wp-content/uploads/2023/10/JP10Y-JP02Y_2023-10-31_18-32-35-300×173.png 300w, https://www.marketpulse.com/wp-content/uploads/2023/10/JP10Y-JP02Y_2023-10-31_18-32-35-768×442.png 768w, https://www.marketpulse.com/wp-content/uploads/2023/10/JP10Y-JP02Y_2023-10-31_18-32-35.png 1514w" sizes="(max-width: 700px) 100vw, 700px" /></a></p>
<p>Fig 2: JGB yield curves as of 31 Oct 2023 (Source: TradingView, click to enlarge chart)</p>
<p>In the short term, JPY’s weakness has continued to be stubbornly persistent where the JPY is the worst performing major currency against the US dollar where it shed -1.10% intraday at this time of the writing.</p>
<p>The USD/JPY has completely erased yesterday’s (30 October) US session loss after it printed an intraday low of 148.80 and rallied to hit a current intraday high of 150.76 during the European session today.</p>
<h2><strong>Narrowing of the yield premium of US Treasuries over JGBs do not support current bout of JPY weakness</strong></h2>
<p>Based on an intermarket perspective, the ongoing swift up move of the <a href="https://www.oanda.com/sg-en/trading/instruments/usd-jpy/">USD/JPY</a> may not be sustainable as the 10-year JGB yield is now able to move more “freely” on the upside as the 1% is no longer a hard cap and it rallied to a fresh year-to-date high of 0.96% today, its highest level not seen since May 2013.</p>
<p>In addition, the shorter-term 2-year JGB yield that is more sensitive to the short-term interest rate policy has risen by a steeper pace to close at 0.16% today.</p>
<p>All in all, the 2-year and 10-year yield premium of the US Treasuries over JGBs have continued to narrow this week which in turn does not support the current bullish tone seen in the USD/JPY as it is now approaching the upper limit of the key medium-term resistance zone of 150.30/150.90. (see Figure 3).</p>
<p><a href="https://www.marketpulse.com/wp-content/uploads/2023/10/JP10Y_2023-10-31_18-32-21.png"><img loading="lazy" class="alignnone wp-image-808448 size-large" src="https://www.marketpulse.com/wp-content/uploads/2023/10/JP10Y_2023-10-31_18-32-21-1024×589.png" alt="" width="700" height="403" srcset="https://www.marketpulse.com/wp-content/uploads/2023/10/JP10Y_2023-10-31_18-32-21-1024×589.png 1024w, https://www.marketpulse.com/wp-content/uploads/2023/10/JP10Y_2023-10-31_18-32-21-300×173.png 300w, https://www.marketpulse.com/wp-content/uploads/2023/10/JP10Y_2023-10-31_18-32-21-768×442.png 768w, https://www.marketpulse.com/wp-content/uploads/2023/10/JP10Y_2023-10-31_18-32-21.png 1514w" sizes="(max-width: 700px) 100vw, 700px" /></a></p>
<p><a href="https://www.marketpulse.com/wp-content/uploads/2023/10/USDJPY_2023-10-31_18-35-42.png"><img loading="lazy" class="alignnone wp-image-808449 size-large" src="https://www.marketpulse.com/wp-content/uploads/2023/10/USDJPY_2023-10-31_18-35-42-1024×589.png" alt="" width="700" height="403" srcset="https://www.marketpulse.com/wp-content/uploads/2023/10/USDJPY_2023-10-31_18-35-42-1024×589.png 1024w, https://www.marketpulse.com/wp-content/uploads/2023/10/USDJPY_2023-10-31_18-35-42-300×173.png 300w, https://www.marketpulse.com/wp-content/uploads/2023/10/USDJPY_2023-10-31_18-35-42-768×442.png 768w, https://www.marketpulse.com/wp-content/uploads/2023/10/USDJPY_2023-10-31_18-35-42.png 1514w" sizes="(max-width: 700px) 100vw, 700px" /></a></p>
<p>Fig 3: JGB yields, yield spreads & USD/JPY medium-term trend as of 31 Oct 2023 (Source: TradingView, click to enlarge chart)</p>
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