Yen Weak, Bucks FX Trend As Domestic Issues Weigh - Analysis

Despite fiscal year-end looming March 31, the Japanese yen held a weak tone versus the dollar and other currencies Monday and was bucking the larger dollar trend as domestic issues weighed.

Dollar-yen was trading at Y113.27 in afternoon action, in the middle of a tight Y113.05 to Y113.69 range.

The earlier high, seen during the Asian session, was the highest level seen since March 16, and that day's high around Y113.82 is the next topside target.

This month, dollar-yen topped out at Y114.56 on March 2, only to tumble to Y110.17 on March 17, driven by a combination of unwinds of yen shorts and safe-haven yen demand.

Since mid-month, the pair has made slow progress higher again, despite speculative positions remaining largely long the yen.

CFTC data, released Friday for positions as per March 22, showed that speculative accounts had a net yen long of +53,346 contracts as of March 22, versus last week's net long of +45,489 contracts.

The current position compared to the week ending March 8, when speculators had a net long of +64,333 contracts (the largest since the record net yen long of +65,920 contracts seen March 25, 2008).

Back in 2008, dollar-yen bottomed at Y95.76, on March 17 and closed at Y99.98 on March 25, the day of the record net yen long position.

The pair romped higher in subsequent months, topping out at Y110.66 on August 15, 2008, with net yen longs shrinking accordingly.

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As a reminder, dollar-yen closed around Y112.37 on March 22, about 100 points below current levels. The size of this run-up would not usually be enough to prompt a larger culling of positions.

The most recent bout of yen weakness has been driven by a variety of factors.

First, Friday's release of key Japanese inflation data, showing February core CPI unchanged year-on-year, versus MNI's median of +0.1%, cemented the view of many market players that the Bank of Japan will likely need to do more to boost inflation and stimulate the economy.

On the CPI data, MNI's Max Sato and Hiroshi Inoue noted that "Inflation has failed to pick up even at a gradual pace expected by the Bank of Japan as energy and commodity prices remain weak and average wage growth is flat. Government and BOJ officials are still counting on a tightening labor supply and a modest economic recovery to push up consumer prices."

"But growing uncertainty over global demand and net effects of the BOJ's negative interest rate policy is hurting business and consumer sentiment and dampening inflation expectations," they said.

Also sparking a softer yen tone were various media reports suggesting that Prime Minister Shinzo Abe may announce a new fiscal stimulus plan before various G7 events in May and that the plan might include a delay in the planned April 2017 consumption tax hike.

There have been rumors of such a delay for many months and Japanese officials have tended to downplay such prospects.

G7 finance ministers and central bank governors will meet May 20-21 in Sendai City, with their discussions setting the tone for the G7 Summit May 26-27 in Ise-Shima.

The prospect of further stimulus tends to weigh on the yen and lift Japanese stocks, traders explained.

The Nikkei 225 closed up 0.77% at 17,134.37 earlier. Monday's high of 17,167.88, was l below this month's high of 17,291.35, seen March 14, but well above this month's low of 15,857.37, seen March 1.

Market players Monday also were discussing flow data, released last week by the Ministry of Finance, which suggested that Japanese investors may not be waiting until the new fiscal year, that begins April 1, to start looking at overseas investments.

MOF capital flow data, released over the Easter holiday, showed strong Japanese investor demand for foreign assets, said Adam Cole, head of G-10 FX strategy at RBC Capital Markets.

"This is quite the opposite of the repatriation flows typical into fiscal year-end," he said.

The MOF data showed that Japanese investors put Y314 billion into foreign equities in the week ending March "in line with the recent strong trend," Cole said.

However on the bond front, there was a net Y2.3 trillion ($20.3 billion) in net purchases, "the strongest ever recording and this follows a succession of near-record weekly flows," he said.

As for potential FX spillover, "much though not all, of this flow may be FX hedged, but at least part is likely to have JPY selling as a counterpart," Cole said.

The news of record foreign bond purchases in the March 18 week means not only Japanese investors are "exporting their savings," but also that "yen bears do not need to be concerned about repatriation ahead of the fiscal year end," said analysts at Brown Brothers Harriman.

The 10-year U.S. Treasury premium over JGBs "has risen to its best level since September 2014, around 200 bps," they note.

In addition, the two-year U.S.-Japan premium is holding around 100 basis points, which "is the largest since 2008," the analysts said.

In terms of total flows however, foreign investors have been net sellers of Japanese stocks "for 11 consecutive weeks," with Y6.668 trillion (or about $59.2bn) in Japanese shares sold during this period.

"Although last week's sales slowed from the record (JPY1.582 trillion) of the previous week, the JPY677.6 billion sold is the third highest this year." BBH said.

Other than the brief one-day dip to Y110.67 in mid March, dollar-yen has bottomed around Y111.00, which "marks the bottom of the range," the analysts said.

In terms of the topside, "which has also been tested three times since mid-February, the Y114.40-Y115.00 provides the cap," they said.

In terms of FX technicals, Niall O'Connor, technical analyst at JP Morgan, said "the Y114.88-Y115.00 resistance area," which contains the mid February highs and the 38.2% Fibonacci retracement of the slide from the January 29 peaks near Y121.69 to the March lows near Y110.67, "remains the critical hurdle."

On the downside, "a violation of the Y110.87/Y110.69 levels turns the focus to the Y110.35/05 zone," O'Connor said.

With UK and eurozone players returning from the long Easter holiday Tuesday, and Fed Chair Janet Yellen speaking that day also, U.S. Treasury yields may again become the larger driver for dollar-yen, at least in the near-term, although fiscal year-end flows could also sway.

If Fed Chair Yellen and fiscal year-end do not roil, then the focus will shift to data and Friday's releases of key Japanese Tankan and U.S. non-farm payrolls for March.

The BOJ will release the outcome of its Tankan quarterly business survey at 0850 JST Fri April 1, with sentiment is expected to fall further in the coming three months, hit by uncertainty over growth in China and other emerging economies as well as adverse effects of the BOJ's negative interest rate policy.

The diffusion index (DI) for sentiment among major manufacturers is expected to have dropped to +9 in March from +12 in December, according to the median forecast by 10 economists.

The BOJ board will digest Tankan and other indicators ahead of its policy meeting on April 27-28, when it updates its medium-term growth and inflation forecasts for the new three-year projection period through fiscal 2018 ending in March 2019. See MNI Main Wire story at 12:41 pm ET for details.

For U.S. data, MNI's median estimate looks for a 192,000 rise for headline payrolls, an unchanged unemployment rate of 4.9% and for a +0.3% rise in average hourly earnings.

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