Yen Strength A Major Concern Ahead of FOMC

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Market Drivers September 13, 2012
Markets in holding pattern ahead of FOMC
SNB leaves EURCHF peg at 1.2000
Nikkei up 0.39% Europe – 0.60%
Oil at $96/bbl
Gold $1732/oz.

Europe and Asia:
AUD Consumer Inflation Expectation
NZD RBNZ Rate Decision no change
NZD Business NZ Performance of Manufacturing Index 47.2 vs. 49.4
CHF Swiss National Bank Rate Decision <0.25% North America:
USD Initial Jobless Claims 8:30
USD PPI 8:30
USD FOMC Rate Decision 12:30
USD Monthly Budget Statement 14:00
USD Bernanke Holds Press Conference 14:15

Currencies remained in a holding pattern today amidst a very quiet economic calendar and ahead of the key FOMC meeting later today with traders awaiting to see if the Fed will commit to yet another round of QE. The EURUSD remained near its recent highs but saw little desire to push higher in early European trade as traders remained noncommittal ahead of the Fed. In further sign of credit easing in the region, Italy was able to auction off 15 year and 3 years paper at yields far below the period prior with 3 year bonds coming in at 2.75% versus 4.65% in July. The marked reduction in rates is just the type of positive developments that the Italian authorities need in order to stabilize the economy.

The biggest newsflow however came from political rather than economic sphere with the controversy over an anti-Islam film stoking further tension in the Middle East. The latest hotspot was Yemen where protesters tried to storm the US embassy in a copycat attack that already occurred in Libya an Egypt. If this dynamic begins to spread widely through Middle East it will create a fresh geo-political problem that could dampen risk appetite going forward.

In the meantime it has only exacerbated the problems of Japanese policymakers as the dollar continue to slide against the yen with USDJPY coming perilously close to the 77.50 barrier in morning European dealing. Takehiko Nakao, Japan’s top currency official said that Forex moves are clearly not reflecting current state of Japan economy and that current speculative moves are unacceptable.

Yet Japanese officials clearly remain at a loss as how stem the strength of the yen. Jawboning and verbal intervention has proven to be woefully ineffective while outright intervention has only had the most fleeting of impact. Faced with a Fed that appears to be committed to an endless expansion of its balance sheet, the Japanese authorities look powerless in the face of all that liquidity. We have long argued that the BOJ must commit to its own large scale QE program to offset the devaluation effect of the Fed moves, but so far they have been reluctant to follow that path.

In the meantime, if the Fed does announce another round of QE USDJPY will likely weaken further breaking the 77.50 support and targeting the key 77.00 barrier as it approaches all time lows near the 76.00 level. There is no doubt that these price levels are unsustainable for the battered export driven Japanese economy and officials will have to act in response. On the other hand if the Fed surprises by remaining stationary USDJPY could see a powerful rebound as markets readjust their expectations and shorts scramble for cover.

Boris Schlossberg
Managing Director

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