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The recent JPY appreciation has already brought USDJPY below our year-end target (108). What is puzzling us is that correlations between USDJPY and the Nikkei/yield gap have been extraordinarily unstable. While the JPY appreciation started due to de-risking in global stock markets, the JPY appreciation has not lost a momentum though the stock markets have stabilized already.
Meanwhile, a positive correlation between USDJPY and the yield gap recovered only temporarily; however, they no longer seem to have the correlation.
The positive correlation between USDJPY and the Nikkei index has collapsed or remarkably unstable since last fall. We have listed possible drivers of such developments: a positive correlation between TOPIX EPS and USDJPY has weakened due to improving earnings of domestic demand-oriented industries.
Also, possibly foreign investors have started buying Japanese stocks without FX hedge based on the recognition that JPY is at the historically cheap level in real terms. Note that after a sharp decline in TOPIX, the current PE ratio is around 14 times (refer 1st chart).
The valuation appears relatively cheap and this might motivate foreign investors to start buying Japanese stocks, buying JPY.
With regard to the collapse of correlation between USDJPY and US-Japan yield gap, except a brief recovery of the positive correlation around end Jan/early-Feb, the correlation has collapsed significantly since early this year. USD has been negatively correlated with US long-term yields since end-2017.
Arguably investors have sold US Treasuries and the sales have resulted in USD sell-off. Separately, it is worth noting that JPY and US interest rates have been positively correlated though they tend to move to opposite directions (refer 2nd chart). While reasons for the new relationship are unclear, it could be understood to be Japanese investors who hold US Treasuries and have no FX hedge engaging in cutting losses ahead of FY-end. Indeed, Japanese lately net-sold foreign bonds. Courtesy: JPM
Currency Strength Index: FxWirePro's hourly USD spot index has shown -77 (which is bearish), while hourly JPY spot index was at 12 (neutral) while articulating at 09:42 GMT. For more details on the index, please refer below weblink:
http://www.fxwirepro.com/currencyindex.
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