The BoJ’s Intervention Treat

BBH CurrencyView

• Risk aversion is taking hold again with global stocks broadly lower; dollar firmer against majors
• Price action dominated in part by BoJ intervention; on the data front Chicago PMI and Canadian GDP
• Norway’s central bank indicated it will add to foreign currency to oil fund; Korean IP focus in EMs

The euphoria over the euro zone’s master appears to be short lived and risk aversion is once again taking hold in markets with Italy’s 10-year on the run yield breaching 6% again and just a few basis points shy of the high seen in early August. As a result, European bank shares are broadly lower (down 2.7%), bund and gilt futures are higher and other periphery spreads are on the rise. S&P 500 futures also point to a weaker opening, down nearly 1%. Price action is also being driven in part by the USD/JPY fluctuations after the BoJ unilaterally intervened during the Asian session, boosting USD/JPY to 79.55. However, heavy demand following the intervention forced the pair back to levels near 77.80. On the data front, German retail sales rose less than expected, while broad euro zone data such as unemployment and inflation were worse than expected, boosting demand for safe havens.

Today markets are likely to focus on the aftermath of the unilateral BoJ intervention which unlike the moves by the SNB did not target a specific level. As such, this suggests a rejection of the Swiss approach and more importantly suggests to us in time that these levels are unlikely to hold, with JPY strength likely to persist. Nevertheless, the timing of the policy makers was orchestrated quite well by catching the market off guard and stealing headlines at the beginning of a very busy week which culminates with the G20 Summit. Market sources suggest policy makers have sold nearly ¥3 trillion worth of yen overnight, although these initial estimates are generally wrong. In fact, official estimates of the August intervention were nearly ¥4 trillion off. Formally, we will have to wait a few days until the transactions are recorded on the BoJ’s balance sheet. Above all, what really matter is not ultimately the size but rather the fact of the interventions itself. And will it work? Given the market initial response we doubt a one-off unilateral is unlikely to work for long. For one, following the intervention the yen has begun to inch higher again while the Nikkei reversed all its gain to close the day down 0.7%. What’s more, the history of previous unilateral intervention is also discouraging, while the potential for multilateral agreement over further intervention is unlikely ahead of this week’s G20 Summit. Overall, despite the action taken by Japanese authorities we expect the underlying fundamentals to remain the driver of yen strength, notably demand for safe havens and reluctance by the Japanese to recycle its external balance, leading to the yen to retest levels near 76.

Markets are also likely to focus on the Chicago PMI and Canadian GDP this morning. Chicago PMI is expected to moderate from last month but is unlikely to drive markets too much ahead of tomorrow’s ISM report which is seen improving from last month. Canada’s m/m activity growth is expected to moderate from the previous month but with US economic activity picking up we expect a marginal drop in Canadian GDP is likely to be overlooked by the BoC. In short, despite what’s priced into the market we expect the BoC tro remain on hold in Dec. Norway’s central bank indicated that it will buy NOK1.6 bln (~$290 mln) of foreign currencies a day in November for its oil fund. This is more than twice the amount the market had expected and nearly three times the Oct pace (NOK550 mln). This coupled with the poorer than expected retial sales report is leading to the under-performance of the krone in a day when risk is broadly coming off. Retail sales, excluding autos and petrol, fell 0.5% in Sept compared with market consensus of a 0.2% increase. It is the second decline in three-months. Retails sales were essentially flat in Q3. The central bank had kept rates steady earlier this month at 2.25% and pushed out the next hike to the second half of next year, but Norway’s largest bank will hike the rate on its floating rate mortgages by 25 bp to compensate for rising funding costs. Tomorrow Norway reports Oct PMI and a modest decline from the 54.8 reading in Sept is expected.

Overnight in Asia IP in Korea came in a lot higher than expected, expanding by 6.8% YoY in September. Unemployment in Singapore was lower than expected at 2.0% and Q3 GDP in Taiwan was on the softer side rising at 3.37% YoY. In Indonesia, the parliament approved the 2012 budget which is expected to bring the deficit down from 2.1 to 1.5% of GDP of GDP. Looking ahead, tomorrow we receive Chinese PMI which is expected to rise slightly after the strong PMI data last week. We also have inflation and trade numbers from Indonesia, PMI from Singapore as well as IP and trade from Brazil. On Wednesday we get PMIs out of Hungary and Poland. On Thursday Turkey and Russia release its October CPI numbers and the Czech central bank is expected to keep rates on hold at 0.75%. Friday we get CPI out of Philippines, consumer confidence in Mexico.