A day away, but the BOJ holds sway

It might be a day away, but the BoJ still holds sway as markets fret about the BoJ’s highly uncomfortable position, which is likely holding global markets hostage.

Global shares are trading mixed after a quiet session for overseas markets because Wall Street was closed for a public holiday.

China’s GDP came in a bit higher than expected but was received by the sound of crickets as traders care less about backward-looking data during China’s reopening process. Instead, they are now focusing on-the-spot proof in the economic pudding where retail sales laid an egg. However, on the flip side, China’s industrial engines are still revving up in conjunction with the grand reopening as industrial production came ahead of expectations. So, a bit of saw off in most folk’s books.

Asia markets have become a tad less enthralled after the PBoC failed to lower the MLF rate while reaffirming its pledge to keep policy “targeted and forceful” this year.

And with local FX traders expecting growth to drive the next leg lower in USDCNH, they, too, were less enamoured by the lack of a rate cut. In addition, they were less enthusiastic about Chinese consumers keeping their purse strings taught.

Bank of Japan

Last Thursday and Friday (12th/13th Jan), there was a profound JGB selloff following a local paper Yomiuri Shimbun, which reported that the BoJ would review YCC’s side effects at this MPM. The BoJ responded by conducting its most significant single-day YCC purchases, buying JPY 6trn (EUR 43bn) of JGBs over the two days. 

Prolonged daily purchases of this scale seem untenable, increasing the risk of an imminent policy change. And this is not even accounting for the Rinban auctions through which they purchased even more bonds.

Additionally, when the BoJ widened the 10y JGB yield target band on 20th Dec, one of their explicit goals was to “Encourage a smoother formation of the entire yield curve.” However, the 10 point of the JGB curve is still in dire need of damage control. Hence this would also suggest the BoJ is likely dissatisfied with its current policy mix. 

The likely outcome of any BoJ tightening is further sales of foreign bonds where EGBs are more exposed than USTs; Treasury/Bund tighteners since over the last 12m have seen Japanese investors liquidate much of their UST holdings in the context of profoundly negative FX  Hedged returns. Japanese market participants made net sales of EUR 122bn of USTs in 2022, compared to EUR 23bn for Bunds/OATs/BTPs/DSLs combined. Therefore, there is room for EGB underperformance.