USD Swaps: BOJ’s shock hits global markets - what next?

BOJ’s hawks stun global markets

Global fixed income has recovered from the lows tested after the BOJ’s shock decision to widen its 10y JGB YCC trading band to +/-50bps from +/-25bps (see Total Derivatives) in an effort to revive the broken JGB market. 10y JGB yields spiked by 15bps to 40bps in the largest daily move since August 2003, the yen surged by over 3% to test USD/JPY 132 and clearer JSCC was forced to announce an emergency margin call.  

As the impact rippled outwards, 10y USTs are now 3.65% (+6bps ) after hitting 3.71% in Asian trading in the wake of the news. The 30y UST is 3.70% (+7bps) and the curve is generally higher and steeper. At the same time dollar swap spreads are sharply narrower at 1.00bps (-1.00) in 2y, -24.50bps (-1.00) in 5y, -33.00bps (-1.50) in 10y and -71.50bps (-2.25) in 30y.   Yen cross-currency basis is 3-3.5bps higher from 2y out to 30y but 1.25bps lower for the first break, while EUR/USD first break basis is down 0.5bp. 

In risk assets the Nikkei lost 2.5% after the BOJ and the yen's rise but the spillover to European and US equities has been limited so far with the Euro Stoxx -0.1% and Nasdaq futures -0.2%.  

Ahead, blindsided analysts - 47 out of 47 economists polled by Bloomberg had forecast unchanged BOJ policy today – have had a few hours to revise their views.  SocGen, for instance, sees the move as a one-off but warns that passive QT may arrive next year:

“In light of today’s BoJ decision, a further slowdown in overseas economies and our views on the spring wage negotiations and public debt management, we would expect the new governor to leave the current YCC framework unchanged next year.”

 

“However, considering that the government may want to announce a revision to the accord relatively early after the appointment of the next BoJ governor, we think the accord will be revised and that the ‘inflation-overshooting commitment’ will also be deleted at the April monetary policy meeting. If the BoJ deletes this commitment, the BoJ’s balance sheet may gradually decrease in the future because the BoJ does not reinvest unlike the Fed and ECB.”

As for the FX impact, SocGen expects further yen appreciation despite the yield gap versus the US, and also despite the BOJ’s efforts to portray the move as aimed at fixing the broken bond market:

“Looked at through the lens of relative 10y yields, the move is small, an 8bp narrowing in the spread to the US, that leaves it 170bp wider than it was at the start of the year. But arguing that the USD/JPY reaction, which is much more a function of the US side of the relationship, is excessive, would be to ignore the context.

 

“Firstly, this is a change of direction for the BOJ, which has stood firm against any shift in recent months. Symbolically, this is an important step. Secondly, the yen remains undervalued on almost any measure. In real effective terms, it had fallen to its lowest level since 1973.

 

“This has been the fifth big spike in USD/JPY in the last 30 years. The previous four all saw a rapid yen rebound in the months after USD/JPY peaked. So far, this cycle is repeating that. We’ve previously argued that big USD/JPY swings are largely a function of Japan’s net international investment position, and changes in FX hedging ratios. This move increases pressure to hedge foreign asset portfolios and so, to buy the yen, in thin holiday markets.”

Elsewhere, Barclays also reckons that today’s move is not the start of a BOJ tightening cycle:

“Given wage and price trends and the external environment, including monetary policy by other central banks, we do not believe conditions will allow for continuous YCC changes following today’s decision. For its next policy move in the medium to long term, we believe the BoJ will opt not to widen its yield target range further as it did today but to adopt a shorter YCC target yield.”

Finally, BNP Paribas looks for the move to steepen the JGB curve:

“The wider YCC range should leave the new BoJ leadership team with at least a little breathing room when it takes over next April…The combination of higher rate and ample liquidity is likely to create distortion in rates market as short maturity cash products richen vs. swaps. The BoJ offered the least increase for 25y+ rinban. We think while 10y is capped, 30y JGB is liable to underperform on the curve.”

New issues

• CABEI has said that it’s considering a USD benchmark for early 2023.

   

• Kexim plans USD and maybe EUR bonds in January. Leads are ANZ, BNPP, BofA, Citi, KB and MS.