This one pair has been at odds with yield divergence throughout 2016 as the yen benefited from risk aversion and due to market participants’ doubts on BoJ’s abilities to ease policies further.

• It had shown excellent response to the yield divergence in the past, especially after Bank of Japan (BoJ) announced its quantitative easing program back in 2012. The close relationship lasted until summer of 2015. US-Japan 2 year yield spread rose from 0.13 percent in 2012 to 0.72 percent by May 2015 and hovered there till October and the exchange rate reached from 76 to 126 in that same period.
• However, trouble started surfacing after summer. We guess it was triggered by surprise devaluation of the yuan by the Chinese central bank, People’s Bank of China (PBoC).
• The yield spread kept rising in favor of the dollar. The yield spread rose more than 30 basis point since summer, but, the yen has strengthened from 126 to as low as 98.
• After Donald Trump, the Republican candidate secured a victory in last year’s US election the exchange rate started to respond to the yield difference once more. After Mr. Trump’s victory, the yield gap jumped suddenly by more than 25 basis points and the yen has weakened to 114 per dollar from as high as 101 per dollar.
• In our last evaluation in February we pointed that the yield spread has widened by 13 basis points compared to December but that has failed to weaken the yen against the dollar as the safe haven currency has once again started benefiting from risk aversion.

We would like to point out that while yield spread remained elevated, the yen strengthened benefiting from rising risks aversion due to the US missile strikes in Syria and military positions in the Korean Peninsula. It has started weakening and started following the spread partially as the French election failed to trigger additional risk aversion due to Emmanuel Macron win and the improvement in the US-Russia relations despite the strike. Since our last review spread has widened by 7 basis points and is currently at 152 basis points and yen is at 113.8 per dollar.