Two days ago we made a very simple observation: "Whenever Goldman openly commands the muppets to buy, you know the situation is serious, and Goldman has a lot of unwinding to do. Which is precisely what just happened following the Squid's reco to buy Nikkei September futures (NKU3) ahead of the BOJ meeting. What is Goldman's thesis in a nutshell: hope may be fading in Abenomics, but the "incentives for Governor Kuroda to use the [upcoming BOJ] meeting to signal a firmer and clearer commitment to the easing course, and to highlight the potential to do more, are high and rising." In other words, please bet the farm on more of the same jawboning that lead to a 20% loss for anyone who bought as recently as 2 weeks ago. Oh, and by the way, complete the sentence, whenever a client is buying from a Goldman flow trader, the Goldman flow trader is [____]." The answer, by the way, was "selling", as any muppet who may have taken Goldman's most recent advice just found out.
Overnight, following the disappointing BOJ announcement which contained none of the Goldman-expected "buy thesis" elements in it, things started going rapidly out of control, and culminated with the USDJPY plunging from 99 to under 96.50 as of minutes ago, which was the equivalent of a 2.3% jump in the Yen, the currency's biggest surge in over three years. Adding insult to injury was finance ministry official Eisuke Sakakibara who said that further weakening of yen "not likely" at the moment, that the currency will hover around 100 (or surge as the case may be) and that 2% inflation is "a dream." Bottom line, NKY225 futures have had one of their trademark 700 points swing days, and are back knocking on the 12-handle door. Once again, the muppets have been slain. Golf clap Goldman.
Of course, all of the above wouldn't be quite as hilarious if one didn't keep the following primary objective of the Bank of Japan in mind:
The Bank of Japan Act states that the Bank's monetary policy should be "aimed at achieving price stability, thereby contributing to the sound development of the national economy."
Price stability is important because it provides the foundation for the nation's economic activity. In a market economy, individuals and firms make decisions on whether to consume or invest, based on the prices of goods and services. When prices fluctuate, individuals and firms find it hard to make appropriate consumption and investment decisions, and this can hinder the efficient allocation of resources in the economy. Unstable prices can also distort income distribution. For example, in times of high inflation, people holding only financial assets whose value is fixed in nominal terms, such as bank deposits, will suffer a decline in the value of these assets in real terms.
Funny, nowhere in the above does it say "maximizing year end bonuses for Goldman traders and partners"...
There was little else notable with the world's attention now focusing on the German Constitutional Court's hearing of the constitutionality of the ECB's OMT operation. Spoiler alert: nothing will happen. Why? Because the biggest beneficiary of the ECB's generosity is not Greece, not Italy, not Spain. The beneficiary is best captured by the following chart (hint: DB stands for Deutshce Bank):
The key overnight news bulletin highlights, via Bloomberg:
- Treasuries fall as JPY surges as much as 2.3% vs USD after BoJ kept its stimulus unchanged and refrained from expanding tools to address bond-market volatility.
- BoJ left unaltered its one-year fixed-rate loan facility and plan for JPY60t-70t annual rise in monetary base; Governor Kuroda said the central bank will discuss longer funding operations if they become necessary
- Turkish riot police retook Istanbul’s Taksim Square, the center of nearly two weeks of unrest, from anti-government activists today, using tear gas and water cannons to break pockets of resistance
- The Turkish central bank said it will tighten monetary policy to support currency
- Former Goldman Sachs Asset Management chairman Jim O’Neill said investors should get used to U.S. yields nearer 4% than 2%, sees recovery of “equity culture” and end to bond market rally
- The ECB’s OMT bond-buying plan may force Germany’s top court to choose between market stability and the principles of democracy, lawyers for political groups that oppose the plan said at a hearing; court will consider the case starting today
- Germany’s finance minister Schaeuble said the ECB can’t be targeted in a German court; ECB’s Draghi said he trusts the constitutional court
- Citigroup could lose as much as $7b on currency swings if Portales Partners analyst Charles Charles Peabody is right, putting the analyst at odds with peers who say the stock will be the best performer among big U.S. banks in the year ahead
- U.K. industrial production unexpectedly rose in April, boosted by increased output at oil and water companies. Manufacturing fell after gains in February and March
- Sovereign yields surge. Nikkei -1.5%; China closed for holiday. European stock markets, U.S. equity index futures gain. WTI crude, metals fall
SocGen's FX team lays out the key macro events:
The week got off to a calm start for financial markets, but will the German Constitutional Court hearings unsettle them today?
German Finance Minister Schaeuble, ECB member Joerg Asmussen and Bundesbank President Jens Weidmann will speak. The question is whether Germany will consider the ECB's Outright Monetary Transactions (OMT) program constitutional, given that the country is attempting to limit its potential commitment in the event OMT is activated. Although the German position has been known for a long time, any move to block the process could prompt tension on peripheral yields. We note that 10Y Bonos and BTPs yields increased last week, as the ECB indicated that it was in no hurry to activate OMT or use other non conventional measures. Although fire walls were put in place last year to contend with the euro debt crisis, they still have not been tested: until proven effective, the euro debt crisis will remain a downward risk factor for the EUR.
Turning to the UK, we will be looking out for industrial production data: any positive surprise will continue to put off further Quantitative Easing by the BoE. Could the EUR/GBP rapidly fall back to recent lows of 0.8430/0.84? That is the main risk.
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DB's Jim Reid concludes the overnight event recap:
The Japanese central bank wrapped up its two-day policy meeting overnight by sticking to its target of increasing the monetary base by JPY60-70 trillion a year and keeping other policy unchanged. In what is likely to disappoint those looking for measures to stem to the volatility in JGBs, the BoJ refrained from making any reference to extending the duration of fixed-rate fundsupplying operations, as was expected by some forecasters. Also in terms of JREIT and ETF purchases, the BoJ refrained from expanding the pace of purchases which will likely disappoint equity markets. The central bank left the door open to future changes though, saying that it will “make (policy) adjustments as needed”.
The immediate market reaction following the BoJ’s policy statement saw the USDJPY and Nikkei futures lose 1% and 2.5% respectively but both have recovered some losses since. Japan 30yr yields are now unchanged after initially spiking 2bp. In its outlook, the BoJ described the economy as being on a moderate recovery path and that some indicators suggest a rise in inflation expectations. In terms of other measures, the BoJ said that it will disperse loans totalling JPY3.15trillion to 70 financial institutions under a scheme to help stimulate bank lending.
This all follows a remarkably steady session yesterday where the S&P500 closed broadly unchanged (-0.03%) after spending virtually all of the session range-trading within 4pts of its closing level of 1642.8. Sentiment in equities was buoyed at the open after S&P announced that it had changed its outlook on the US sovereign rating to “stable” from “negative”. S&P appeared to dampen the notion that the US could regain its AAA rating soon though, noting that no sovereign has ever recouped its AAA rating in less than 9 years. Indeed, it took Finland and Canada nine years to return to AAA according to the agency. S&P expects that net general government debt as a share of GDP will stabilise at around 84% for the next few years, allowing policymakers some additional time to take steps to address pentup age-related spending pressures.
Outside of equities, fixed income asset classes were again pressured by the rise in rates after 7yr, 10yr and 30yr UST yields hit fresh 1 year highs yesterday. This came despite dovish comments from St Louis Fed president James Bullard who said that he would support the continuation of QE in its current form if inflation remains below the Fed’s 2% target. Bullard said he wants “to see some reassurance” from inflation data “before we start to taper”. With the rates backdrop, protection in the major credit indices remained fairly well bid with CDX IG (+3bp), European iTraxx (+2.4bp) and Crossover (+14bp) all wider on the day while cash markets traded with a softer tone.
On a related note, EM weakness remains one of the main market themes globally. Mexican peso bonds are garnering a fair amount of attention following yesterday’s selloff that saw 10yr mbono yields add 17bp to close at 5.66%. The magnitude of the selloff has caught a number of investors off guard. Foreign holdings of fixedrate peso bonds reached a 13yr peak of 58% of outstanding in May 7th, around the time that 10yr yields reached their a record low of 4.43%. Since that point, 10yr yields have sold off by almost 120bp as foreign investors trim positions in a market that has been described as “one-directional”. The fact that the Mexican peso is 7.8% weaker during the same time frame is not helping matters for foreign investors either. The Mexican finance ministry will be auctioning 3yr, 5yr and 30yr bonds today as is probably worth looking out for.
Elsewhere Asian credit spreads are another leg wider overnight as the pressure continues to build. The Asia iTraxx IG index is 10bp wider on the day as we type and is about +40bp off its recent tights in early May. Indonesia and Philippine 5-year sovereign CDS are also 18bp and 15bps wider respectively in overnight trading and have now widened by about 60bps and 20bp since Bernanke’s JCE testimony on the 22nd May. Indonesia 10yr local rates are about 25bps higher overnight at 6.60% or about 110bps more than where they were a month ago. In corporate credit Asian HY is generally about 1pt lower overnight.
Elsewhere in Asia, equities are trading with a cautious tone with the Hang Seng (-0.8%) and KOSPI (-0.6%) seeing moderate losses. The Australian dollar is 0.5% weaker against the USD after disappointing housing finance numbers, extending its two month losing streak against the USD to almost 11%.
Turning to the day ahead, attention will turn to the German constitutional court’s hearings on the ECB’s OMT programme which will be attended by the Bundesbank’s Jens Weiddman and the ECB’s Joerg Asmussen. The two-day hearing begins today. The US data calendar features wholesale inventories, JOLTs job openings and the NFIB business optimism survey. The market's reaction to the BoJ and the price action in EM will likely dominate the agenda though.