The outlook for the yen in 2012 – has the the currency started a new trend down?
The yen has fallen heavily in February, from trading in the 76.00s (vs the dollar) at the beginning of the month to rising above 81.00 – in just 24 days. It is often the case that extreme months can signal major changes in trend. My own research on sudden accelerations in rate-of-change led to the development of the Acute Monthly Reversal (AMR) indicator which has proven a reliable indicator of long-term trend change. This indicator signalled a change of trend for the EUR/JPY pair at the break of the 105.69 month of December highs as illustrated below:
USD/JPY has not yet given an AMR buy signal but looks poised to form a key reversal instead, which is another robust trend-change signal.
A trend-line analysis of USD/JPY has shown a bullish break of the tight trend-line at 80.00. The trend-line on EUR/JPY has just been touched (arithmetic scale) or is still intact (log scale).
Momentum is showing convergence with MACD and price on EUR/JPY and this change in momentum suggests the possibility of higher prices.
The long term point and figure charts suggests a break higher will probably occur. The recent up-surge has reached above the 45 degree trend-line on EUR/JPY but it cannot be considered a break until it forms a double top which hasn’t yet happened.
Overall the technicals show the potential for a change of trend, however a decisive break of the trend-lines – both on the bar charts and P&F charts would be required to give me the confidence to really call a new trend. If anything USD/JPY looks the most bullish.
More than any other fundamental driver risk appetite influences the value of the yen. When it is low safe-haven demand for the yen is high and the currency gets stronger and when it is high then the yen generally falls as haven demand tapers off.
One of the main drivers for determining risk appetite is a) risks associated with the euro-zone debt crisis and b) the strength of the larger economies – mainly the U.S but also China because it is the world’s primary producer.
As far as the euro-zone debt crisis goes, a combination of the ECB’s policy of flooding the system with hundreds of billions of euros of ultra-cheap 3-year loans, to re-capitalise banks and encourage them to invest in sovereign debt, thus bringing down the cost of that debt, as well as a the securing of a second bailout for Greece, has helped ease fears – at least temporarily. The debts still remain, and they are some of the biggest in the world. The main source of future risk comes from concerns that the euro-zone might be entering a period of recession which could severely hinder its ability to pay off its debts and thus exacerbate the crisis.
Whilst it is still highly likely this is not the end to the crisis in the euro-zone it is possible that the ECB has won the region some much needed breathing space. The recent upturn in fortunes for the euro is negative for the yen – particularly short term. However, the euro-zone remains a cause for concern and if there is one thing which could support the yen and undo bearish predictions it is a resurgence in risk appetite as a result of further instability in Europe.
The economy’s of the U.S and China are the other major influence’s on risk appetite. The Chinese economy continues to show growth of around 10.0% per annum with little sign of slowing down yet, although recent Manufacturing data has weakened slightly – nevertheless China is still robust.
The U.S has also recovered gradually. It now seems less probable that the Fed will institute another round of monetary easing. Unemployment is falling. The housing sector may even be showing signs of a recovery. All in all the picture is improving, if slowly, which also supports increased risk appetite and further yen weakness as a result.
The Cost of Fuel and Stresses on the Current Account
The effect of oil on Japan is becoming more important. After the Fukushima Daiichi nuclear reactor accident following March Tsunami most (52) of Japan’s 54 reactors were shut down for stress tests to ensure the same thing couldn’t happen to them. However this left a massive gap in fuel needs of the nation which has had to be filled by costly fossil fuel imports. This has eaten away at the country’s current account surplus and the Financial Times estimates that if oil increases in value by 30% this year that would completely wipe out the current account surplus for 2012.
Japan has the highest debt-to-GDP ratio in the world at 198%. The cost of sustaining the interest repayments on its debt, as well as the budget deficit has been met historically by the current account surplus. This surplus comes from Japan’s booming export sector, however, exports have fallen due to the strong yen and fall in demand in Europe and America which have less money to buy their exports with. The double squeeze of shrinking exports and increasing fuel costs has created a balance of trade deficit for the first time in 30 years and this has hit the Japanese economy’s stability. It may also undermine the yen’s reputation as a safe-haven as well.
There are also signs that the cost of oil may rise. There is growing instability in the Middle East and the increased possibility of a full scale war with Iran. There are also strained relations with Syria because of its crackdown on anti-government protesters, but the most worrying development is in Afghanistan and Pakistan where over a dozen have died in riots after it was discovered that two U.S soldiers burned a copy of the Koran at a U.S army base. There is now even more virulent anti-U.S feeling all over the region. Given historic tensions between Islamists and the West this may be the tinder which could spark a wave of hostility and possibly all-out war. These factors continue to push up the cost of oil, impacting negatively on the yen.
Whilst it is possible that Japan’s exports may recover as the yen weakens and Europe and America recover, the cost of fuel may rise cancelling out the benefit. And it is now highly unlikely that Japan’s nuclear programme will be restored to anything like full capacity, because of fresh concerns about the lack of places to store the nuclear waste, making nuclear fuel an improbable long-term solution. It seems likely therefore that the country will be yoked with heavy fuel costs for the foreseeable future and this may be another factor weighing on the yen.
Overall it is a little early to say whether we have witnessed historic highs in the yen and its all downhill from here. There are still substantial risks in the euro-zone which have not yet been solved and if these re-ignite another crisis then investors will continue to seek safety with the yen. Another factor is the high levels sovereign debt held domestically in Japan, thus further protecting it from international markets and the possibility of panic selling and default. The basic strength of its industry and its first rate, premier league corporations are also factors to consider, so whilst I see weakness coming its too early to call a major trend change both from a fundamental and technical viewpoint.