G7 Yen Confusion GBP Worst Behind JPY

G7 Yen Retraction won’t Matter

Three hours after the G7 statement added fuel to the “yen carry trade” fire by tacitly approving Tokyo’s currency policy disguised as a reflationary monetary policy, G7 officials re-emerged to state that they will issue a modified communique on currencies at the G-20 meeting with added emphasis on the yen.

Yen continues to rally immediately after those remarks as traders expect the G-20 to issue a forceful statement against the yen’s rapid 10% slide over the past six weeks.

But none of this is likely to matter as we expect the anti-JPY dynamics to prevail.

We mentioned here two reasons for further yen weakness:

1: GLOBAL RECOVERY PLAY driving Japanese investors into carry trade -

As US business surveys (ISM manuf & services) lead the way relative to global PMIs (Eurozone, UK & China), this suggests that global business surveys (non-US) face more upside room for recovery (catch-up), thereby, fuelling more momentum in the global recovery story, which augurs negatively for the USD & especially the JPY, as Japanese investors’ search for foreign yield enhances the carry trade.

2: CYCLICAL SENTIMENT & race to the top -

Futures market positioning currently shows 68,000 contracts are net short JPY vs the USD (JPY shorts exceed JPY longs by 68,000). This is well below the 188,000 net shorts in the JPY back in June 2007. With JPY shorts more than 100% below their record high, this suggests the road to 97.00 is the path of least resistance. Considering our cyclical bullishness in EUR/USD, this implies a preliminary target of 132 yen for EUR/JPY, followed by 139.80.

GBP/FTSE Mirror Image?

GBP is now the worst performing G20 currency year-to-date after the JPY;  -4% vs. USD, -6% vs. EUR

Is the GBP/FTSE relationship turning into the JPY/NIKKEI pattern? The inverse relationship between Japanese equities and their currency had been around for over a decade. This may sound like a novelty considering sterling’s knack to appreciate during risk-on phases. But with the current BoE governor Mervyn King and his upcoming successor Mark Carney “competing” over who has the power to push the “stimulus” envelope, GBP is increasingly becoming one-sided (and not only against the US dollar). Days after Carney said “full monetary stimulus” was required to help the economy and introducing the concept of “nominal GDP” targeting, King opened the path for further QE when he said “There remains spare capacity – certainly in the labour market”.

Eight consecutive monthly gains in the FTSE-100 have not been seen since 1987.

Wednesday’s release of the Bank of England quarterly Inflation report is likely to reiterate the central bank’s expectation that inflation is to remain at or below the 2% target within two years and that growth should stay sluggish.

The two main questions are:

1) what’s the likelihood that the surprise 0.4% contraction in Q4 GDP shall remain below zero once the revisions are released? and ;

2) what measures will the BoE adopt in order to deliver more growth & counter fiscal tightening?

The second question will be tackled by BoE Governor King in his Wednesday testimony following the release of the inflation report, where he will undoubtedly be asked for suggestions he may pass on to his successor Mark Carney. The latter told us last week he will keep his options open regarding policy targeting, with any shift towards nominal GDP targeting is likely to be a last resort. When all is said and done, a new prolonged dosage of QE would be the most likely rout (around £400-425bn) before any thinking outside of the box is undertaken by the new Governor.

Our continued bullishness on the FTSE last year argued in here August 10, October 25 and December 11 was partly based on the lag of the FTSE-100 with relative to its European and Japanese counterparts. Prospects for further QE and the relaxation of Basel rules in giving banks more time and flexibility to build up cash reserves are likely to further boost the banking part of the FTSE. As the British pound fails to hold on to its four-year trendline support against the US dollar, improved competitiveness may be what the doctor ordered as even the IMF calls upon the UK Treasury to temper austerity.

After eight consecutive monthly advances, we expect the FTSE to continue consolidating between the 6190-6300 range for most of the month before a break-out is likely to ensue past the 6370s near end of April, which marks the gateway for 6470. Key support emerges at 6170—the trendline support from the November low, a break of which risks calling up 6050.