Bank of Japan - Policy decision and Market reaction

Expect the unexpected !!

The Big news today morning is the Bank of Japan (BoJ) monetary policy decision. BoJ Governor Kuroda who is nearing an end to his term did not fail to shock and awe the markets. 

BoJ decided to modify the conduct of YCC (Yield curve control) in order to improve market functioning and encourage a smoother formation of the entire yield curve while maintaining accommodative financial conditions. Please note the modification was not attributed to higher inflation.

So BoJ tightened and eased at the same time.

1. BoJ expanded the band around the 10Y yield target to +/- 0.50% from +/- 0.25%. It will offer to purchase 10Y JGBs at 0.50% every business day through fixed rate purchase operations. It will also make nimble responses for each maturity by increasing the amount of JGBs even more and conducting fixed rate operations.
2. BoJ increased the monthly bond buying under the new quarterly bond buying plan to yen 9 trn from earlier yen 7.3 trn. 

BoJ's monetary policy has been extremely accommodative while the other central banks have been tightening policy and reducing liquidity.

The share of Japanese government bonds held by the Bank of Japan has topped 50% on a market value basis for the first time. The BOJ held 535.62 trillion yen ($3.92 trillion) in Japanese government bonds by market value at the end of September, excluding treasury discount bills, according to its Flow of Funds Accounts report published Monday.

Why does the BoJ interest rate decision matter so much to the markets?

BoJ monetary policy stands in deep contrast to the monetary policies of other Central Banks. CBs have been battling high inflation prints and tightening policy. On the contrary, BoJ has been buying unlimited amount of JGBs to cap the 10Y yield at 0.25% even though the inflation accelerated to 3.7%.

As a consequence of the ultra loose policy, yield starved Japanese investors chased global yields. So the money managers borrow in yen, swap it out to USD and invest in USD bonds. So in effect, BoJ policy creates a constant demand for high yielding global bonds and hence the BoJ effectively helps keep global yields lower. 

Now any change in the BoJ policy will have direct cross asset implication and the recent decision reverberated across markets. 

The Japanese yields hardened with the 10Y curve rising as high as 0.47% from Asia morning low of 0.25%. 10Y JGB yields are currently trading at 0.42%. 

The US yields are higher. 2Y is 2 bps higher at 4.28% and the 10Y is 8 bps higher at 3.66% and 2x10 curve inversion flattened to 62 bps.

1Y USDJPY forward rose sharply from -693 pips to -650 pips. 

USDJPY fell from a high of 137.56 to 132.11. The Asian currency complex strengthened as well.

The recent rate decision is very significant as it raises a pertinent question if the BoJ is on way to unwind the accommodative policy when Gov Kuroda's term ends. Was this policy a measure to deal with the jpy weakness?

Stay with me in the next blog posts as I discuss more on the recent moves and market implications.

Wonderful day people !!