BoJ Outlook Release: What You Need to Know

Euro’s attractiveness on the rise

The big drop in the dollar yesterday was, in our view, a re-linking between FX and short-term rate differentials. In this sense, markets are finding the Euro quite attractive given it can offer not only an ongoing domestic tightening cycle, but also still room to speculate on a hawkish surprise at the coming meetings.

USD: Earnings versus banks and Fed expectations – Neutral to Mild Bearish

Positive news has come from the tech sector in the US, where earnings have surprised on the upside, and this has offered some floor to US equities. While it’s true that there was a large gap in terms of short-term rate differentials to be covered by the dollar against the Euro and other European currencies, relative equity dynamics have remained more relevant from a statistical standpoint, and a better performance in US stock markets compared to European ones today could help the dollar at least stabilise.

EUR: Market's favourite

The big rally in EUR/USD yesterday was a testament to how markets seem to favour the Euro among other currencies in instances when the dollar falls on the back of Fed dovish repricing and US banking concerns. My perception is that investors favour currencies that can offer both an ongoing domestic tightening cycle and still some room for a hawkish surprise at the coming meetings. In that sense, the Euro is one of the very few currencies that can offer this combination at the moment, and we don’t fail to see its attractiveness compared to peers.

ING Eurozone economist published a report that is worth the reading, you can find it here; https://think.ing.com/articles/ecb-preview-a-25bp-compromise-rate-hike/

He discusses the same view as I have a call for a 25bp rate hike at next week’s meeting. However, he highlights how the chances of a 50bp move are non-negligible and we might revise our call after inflation data and the Bank’s Lending Survey. Markets are currently pricing in 30bp of tightening, so there is still room for the Euro’s rate attractiveness to rise, and we cannot exclude that we’ll find ourselves with a much stronger EUR/USD as key central bank meetings kick off next week. Today, a stabilisation around 1.1050/1.1100 seems plausible, although a break above 1.1100 could trigger another substantial rally in the pair. On the data side, the Eurozone’s calendar today is pretty busy including a bunch of important data coming from EZ.

Elsewhere in Europe, the Riksbank hiked by 50bp, but the emergence of two dissenters on the Board and the signal that rates will peak after the next 25bp rate hike translated into a dovish surprise for markets.

JPY: Don't rule out a hawkish tilt in the BoJ message

The Bank of Japan will announce monetary policy today, for the first time under new Governor Kazuo Ueda. In line with the consensus call, I expect no changes to the policy settings for interest rates and asset purchases.

The release of the new outlook report and specifically inflation forecasts will drive a big part of the market reaction However, there is a possibility that the BoJ will tweak forward guidance the very last part of the statement which reads, “interest rates to remain at their present or lower levels".

It could also possibly drop the “lower levels” bit, ultimately switching to a more flexible approach and laying the groundwork for a policy adjustment in the future.

With not much priced in in terms of policy shift this summer by the BoJ and given the dollar’s weak momentum seen yesterday, USD/JPY looks vulnerable ahead of tomorrow’s risk event in Japan. I still target 128 for the end of the second quarter.

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