Overnight Summary: Market Fades Open-Yended Monetization
The two month wait is over and the most overtelegraphed central bank news since November 2012 finally hit the tape when the BOJ announced last night what everyone knew, namely that it would proceed with open-(y)ended asset purchases and a variety of economic targets, key of which was 2% inflation. However, the response so far has been one of certainly selling the pent up news, especially since as was further detailed, the BOJ will do virtually nothing for 12 months, except to increase the size of its existing QE (is the current episode QE 10 or 11?) by another €10 trillion for the Bills component. The USDJPY dropped as much as 170 pips lower than its overnight kneejerk highs hit just after the news.
Turning to Europe, where the EURUSD so far has been a bigger beneficiary of the BOJ action than the JPY, as apparently news of open-yended purchases are yen positive and dollar negative, a scary episode took place just around 4 am Eastern when the bottom suddenly seemed to fall out of German risk, especially financial stocks, spreading to the EUR, following a report from the Boersen Zeitung that a Bafin model was simulating a split of the largest German banks - Deutsche Bank and Landesbank Baden-Wuertenberg, due to their size relative to German GDP. Why Germany may be contemplating or even modeling a split of DB is unclear - it is likely that the biggest European bank will ever voluntarily split itself into two separate parts. Luckily fears of the scray reality were prmptly forgotten when one hour later the latest German ZEW sentiment index came out at a ridiculous print of 31.5 for January, up from 6.9, and above expectations of 12.0. Whether this is due to the official negative German GDP print, or to sliding German exports, or both, is unknown. It is also unknown how as part of the survey, the majority of the respondents said they did not believe the economy would change and only a minority see improvement, adding that if some banks gave back LTRO money that would be a sign that the crisis is not worsening. What is known is that once again, optimism and outlook is supposed to trump reality, and so it does, as the EURUSD promptly reverts back to its baseline in the mid-1.33 range, where it continues to be a drag on German and Spanish exports as reported yesterday.
And speaking of Spain, the pain for the insolvent country with the 26% unemployment, rages on following a report that in Q4 house prices fell another 9.8% from a year ago, with the Y/Y deteriorating following "only" a -9.3% drop in Q3, a -2.2% sequential drop from Q3 to Q4. Expect this too to be spun somehow.
Below is a quick post-mortem on the BOJ action from Goldman:
BoJ adopts a 2% inflation target - as expected
Today’s BoJ announcement was the most widely anticipated in a long time, as markets waited to see the steps that the BoJ would take in conjunction with the new administration’s desire to overcome deflation.
As widely flagged, the BoJ adopted a 2% inflation target. Ahead of the meeting, the Japanese media had debated the timeframe over which this target would be reached. In the event, the BoJ specified that it would pursue monetary easing and aim to “achieve this target at the earliest possible time”. However, it went on to suggest that this will take ‘a considerable time’. The BoJ’s forecasts, which were refreshed at this meeting, foresee that core CPI excluding the effects of the consumption tax hike will range between +0.5% and +1% in FY2014 (with a median estimate of 0.9%). While this is a move towards positive inflation rates, it is clearly still a long way from its new objective, underscoring that it will take a considerable time to reach inflation at 2%.
The BoJ increased its APP by JPY10trn to JPY111trn, mostly in JGBs and T-bills, and shifted to open-ended purchases (from 2014, there will be monthly purchases of JPY2trn JGBs and JPY10trn T-bills). The BoJ's announcement states that the monthly JPY2trn JGB + JPY10trn T-bill purchase will increase the APP balance by JPY10trn in 2014, and then maintain the balance thereafter from 2015. We think the Bank is committing to at least maintain the balance, with the possibility of increasing the APP program if necessary as it goes along.
By contrast, the Fed has committed to an increase of its balance sheet by USD85bn per month until certain macro conditions are met (the BoJ’s Rinban operations also increase the bank's balance sheet, but the BoJ has not chosen to ease policy by increasing the Rinban program). At this point, the Fed is continuing to ease more aggressively than the BoJ both in word and deed, and this continues to leave us sceptical about the ability of the Yen to weaken significantly further from here. Today’s BoJ announcement is likely to disappoint foreign investors who are holding relatively stretched short Yen positions, according to the IMM data. It will also be interesting to see what the Japanese investors make of today’s decision; they could be positively surprised by the decision to maintain the size of balance sheet.
The BoJ did not cut IOER, neither did it extend the maturity of bonds purchased under the APP, thus the actions taken were relatively muted considering the adoption of the 2% inflation target, but they were probably the most we could expect given limited room for manoeuvre. Ultimately, today’s announcement means that we will need to wait for the new governor to take over at the end of April and show his stripes.
The market reaction was relatively muted. The Yen is a shave stronger at 89.17, compared with the 89.50 levels ahead of the meeting, suggesting that the market was positioned for a modestly more dovish outcome. JGBs are basically flat and the Nikkei has recovered to flat after selling off slightly as the market digested the outcome. Possibly the most interesting market to watch from here is the Japanese inflation market. While this asset class is very illiquid owing to the lack of inflation-linked issuance since 2008, break-even inflation did rise steadily following the introduction of the 1% inflation goal in February 2012 and the introduction of a 2% inflation target may well push this move further after the pause since last summer. Outside of Japanese assets, the BoJ's decision has pushed the Euro stronger, but the reaction elsewhere was fairly muted.
And a complete event recap of the past 24 hours, as is customary, from DB's Jim Reid:
The two-month wait is finally over with the Bank of Japan announcing overnight that it will formally adopt a 2% inflation target and introduce anopen-ended asset purchase program starting from January 2014, after the current purchase program has concluded. In a 12-page announcement, the BoJ said monthly asset purchases will be targeted at 13trn yen from January 2014, consisting of 2trn in JGB purchases and 10trn in t-bills purchases. As a result of these measures, the total size of the asset purchase program will be increased by 10trn yen in 2014 after accounting for maturities.
The announcement also included a highly-anticipated joint statement from the Government and BoJ in which both parties agreed to strengthen policy coordination and work together to “overcome deflation early”. The joint statement also says that the BoJ will pursue monetary easing to achieve the inflation target at the “earliest possible time”. Meanwhile, the government will “promote measures aimed at establishing a sustainable fiscal structure” and formulate measures for “strengthening competitiveness” such as “concentrating resources on innovative research and development, and carrying out bold regulatory and institutional reforms”. As was expected, the overnight call rate was left unchanged at zero to 0.1%. Board members voted to adopt the above measures with a 7-2 majority vote.
In terms of the market reaction, the Nikkei and USDJPY went into the BoJ announcement trading 0.7% and 0.5% higher respectively, steered by widespread pre-empting of the new measures from domestic media in the hours prior to the formal BoJ announcement. Perhaps in a case of “sell the fact”, the Nikkei and USDJPY have more than retraced those moves and are now are sitting on losses of 0.40% and 0.45% for the day respectively. Across other assets, 10yr JGB yields are unchanged on the day after having been 2bp higher prior to the BoJ announcement, the TOPIX is down 0.7% (or a -0.9% move lower post-BoJ) and S&P futures have pared earlier gains to trade 0.2% higher overnight.
Outside of Japan, most Asian equities are trading marginally firmer overnight although earlier gains have been pared. The Hang Seng, ASX200 and KOSPI are 0.15%, +0.03% and 0.3% higher on the day respectively. Responding to the recent appreciation of the KRW against the USD and JPY, South Korea’s finance minister said that the government would increase support for exporters, citing that gains in the won were causing damage to companies such as automakers.
Returning to yesterday’s session, the EuroStoxx 600 finished with a gain of 0.26% bringing it to just a few points shy of its four-year high of 291. With US markets closed for Martin Luther King Day, there was little news flow or volume to move markets in either direction. In the US, House Republican leaders have scheduled a vote on a near-four-month extension of the debt ceiling for this Wednesday.
In an interesting twist, the House bill is not expected to specify a hard dollar increase in the debt ceiling, but will instead suspend (rather than lift) the debt ceiling until May 19th, after which the debt limit will be automatically increased from $16.4trn to accommodate whatever additional borrowing the Treasury had done during that time frame. According to the Hill, the bill was designed to allow Republicans to avoid having to vote on a specific dollar increase in the debt ceiling that could be used against them in later election campaigns (The Hill).
Elsewhere in Washington, Obama’s inauguration contained no major surprises from a markets point of view, but the President outlined pledges to preserve health-care programs, pressed for gun controls and an overhaul of the tax code (WSJ).
Turning to Europe now and the first Eurogroup meeting of 2013 concluded with Dutch finance minister Jeroen Dijsselbloem confirmed as the new President of the Eurogroup. Other items on the agenda last night included direct ESM bank recaps, to which there appeared to continued disagreement on the treatment of “legacy assets”, and Cyprus where a decision on a bailout has been pushed back to at least March. The Eurogroup did manage to agree on one thing though, authorising the next EUR9.2bn bailout disbursement to Greece. The payment will be broken into a EUR7.2bn for bank recaps and a EUR2bn for government budget needs.
In other headlines, Spain is reportedly planning to issue a new 10yr bond in the next week which would be the first benchmark 10 year bond issue since November 2011. The news perhaps explained some of the weakness in Spanish yields yesterday with the 10yr yield closing 8.5bp higher at 5.163%.
Turning to the day ahead, the highlights on the data front are Germany’s ZEW survey for January and existing home sales in the US. Eurozone finance ministers reconvene today for the ECOFIN meeting in Brussels. On the earnings docket, Unilever will be reporting annual results this morning London time. In the US, Johnson & Johnson and Texas Instruments report before the opening bell while Google and IBM report after the close.
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