USD/JPY: A Flow Perspective: Will Likely Sink In A Storm; What’s The Trade?

By BofAML via eFXNews

Bank of America Merrill Lynch Global Research discusses USD/JPY from the the flow perspective and makes the following observations.

(1) Increasing correlation with USD/JPY and its carry reflects rising participation by foreign traders, led by real money, relative to domestic investors and corporate.

(2)Structural buying of USD/JPY by Japanese traders has decelerated due to a peak-out in outward M&A activity and potentially limited margin of expanding USD exposure among bond managers.

(3)A lower hedge ratio among Japanese bond managers and the Fed’s dovish shift could cause re-hedging of their bond portfolio in case of a large move higher in global risk,” BofAML notes. 

The implication is that there seem to be more potential sellers of USD/JPY than potential buyers. But we note that a volatile move lower in USD/JPY would require a shock to economic fundamentals (sustained higher tariff) rather than temporary risk aversion (brinkmanship) as real money, not short-term traders, seems to have led long USD/JPY carry position and it is hard to find alternative assets for lifer,” BofAML adds. 

Bottom-line: Sell USD/JPY amid an actual tariff hike and further escalation of the trade war (initial range 105-108). Brinkmanship would favor JPY against selective currencies, but not USD (USD/JPY 108-110). A trade agreement would weaken USD and JPY (USD/JPY 110-112) and cross yen would broadly rally,” BofAML concludes. 

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