The big story around here yesterday was NKD, which nailed our downside target and dutifully recovered into the close — only to fall back below it in the after hours as USDJPY dipped even further.
It provided great guidance for a short position that delivered some nice gains, and for the long position after the bounce.
With USDJPY back above its .618, futures are back in the green. Even the EURUSD had a nice bounce. But, are “markets” really out of the woods?
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Ignore the headlines. If you’re looking for something to blame for this morning’s sell off, look no further than USDJPY, which has once again stumbled at the all-important .618 Fib at 120.11.
It’s easy to see from the chart above that every time USDJPY pops up above 120.11, ES rallies. Every time it drops below, ES declines. This morning, it even put in lower lows after registering a lower high than yesterday. With any other financial instrument, we’d call that a trend. With the tightly managed USDJPY, it’s more of a tool.
So, why the inability to decisively retake 120.11? What’s the end game? As regular readers know, most of the “market’s” gains since 2011 have been driven by the yen carry trade. If the yen doesn’t keep dropping in value (USDJPY gains in value) then the bull market is over.
So, the question remains, what will it take for the BoJ to keep bashing the yen — especially as negative political repercussions continue to rise? For the answer, we turn to another important chart, the Nikkei.
The Nikkei 225 is nearing an important trend line of support that we’ve been watching. If it bounces off that TL and continues northward, all is well. Kuroda and Abe can go back to fleecing the Japanese people in the knowledge that their phoney baloney jobs are safe. But, if it plunges through that TL…well, that might be just what carry traders need in order to get the BoJ off its keister.
Could it happen? And, more importantly, would it work? As we discussed in our last update on the Nikkei [see: Update on Nikkei, Sep 10], it might just be the pivotal moment for the bulls.
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Reuters reported over the weekend that the BoJ was “brainstorming” an overhaul of its massive QQE program. Given that equities have been sliding ever since USDJPY’s rising trend was broken in mid-August (the white arrow, below), I’d say the term “brainstorming” doesn’t convey near enough desperation. 
As the article points out, the BoJ now owns 25% (some say 30%) of all JGBs. It’ll be 40%+ in 2016. And, given that most banks, insurers and brokers are required to hold JGBs for collateral purposes, one can easily envision a shortage of bonds for QQE.
What the article doesn’t mention, however, is the BoJ’s massive and growing position in equities. Along with the GPIF, it amounts to around 18% of Japan’s GDP. It’s hard to imagine them throwing a huge leveraged bet like that under the bus on a technicality like what’s eligible collateral under the QQE guidelines.
And, let’s remember that it isn’t the growth in money supply per se that’s propping up stocks. It’s the money directed at equity purchases and, more importantly, the ongoing yen debasement that fuels the yen carry trade.
The BoJ and others are very adept at manipulating the USDJPY — down to .01 moves when need be — in order to keep the carry trade alive. But, at some point, it’s going to be pretty obvious to everybody that the USDJPY has gone nowhere since first tagging the yellow .618 at 120.11 on Dec 4.
However they accomplish it, BoJ has to hammer the yen lower or face the consequences of its inaction. On Dec 4, NKD closed at 18,105. Nine months later, with USDJPY still lingering near 120.11, NKD is trading at 18,060. The 3,000 point (16%) rally in between is a rapidly fading memory.
Brainstorming? It’s more likely that BoJ is mapping out the exact time and place for USDJPY’s next leg up.
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With the prospect of higher rates off the table for now, the US dollar has suffered a bit of a body blow that has translated into relative strength for the euro and the yen. It is the yen strength that is problematic for equities, as the yen carry trade relies on an ever weakening yen.
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If there’s one thing we’ve learned from the FOMC over the past 7 years, it’s that they care more about equity prices than anything else. Anything.
So, it makes sense to question whether they’d risk it all by raising interest rates 1/8-1/4%.
The BoJ didn’t help matters by punting on an QQE expansion earlier this week — leaving the yen carry trade in limbo at the moment. Knowing what’s at stake should it unwind, this leaves the Fed somewhat more likely, IMO, to hazard a small hike.
This is counter to everything I’ve been expecting for months, and completely contrary to the original intent of our USDJPY analog. But, obviously last month’s dive to almost the .886 Fib was neither deep nor persistent enough to induce Abe/Kuroda to endure even more ridicule (if that’s even possible.) Maybe they need a little more convincing?
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In the classic Hans Christian Andersen fable, a self-absorbed emperor parades through town in a suit made by two swindlers of “magical fabric” that is supposedly invisible to the stupid or incompetent.
Not wanting to be seen as stupid or incompetent, everyone gushes about how beautiful his suit is — that is, until a child cries out the obvious: “but, the emperor has no clothes!”
I can’t help but think of this story every time I see Abenomics mentioned in print, but not for the reasons one might imagine. In my minds eye, I see Abe and Kuroda as the two swindlers — spinning magical economic policy into a non-existent recovery.
Earlier this morning, S&P finally cried out what a few of us have been saying all along: Abenomics isn’t working, and it is unlikely to work. Japan was downgraded all the way from AA- to A+ (hey, it’s a start.) And, in a statement that would only make sense in a fairy tale, they pronounced Japan’s outlook “stable.”
The S&P press release came out at 5:47 ET, so naturally at 5:47 the Nikkei futures dropped a massive (sarc) 0.245%, regaining 0.547% over the next 2-1/2 hours. 
Currency traders at the BoJ, having obviously already been tipped off, actually made sure that the yen strengthened after the announcement (the white arrow), then continued the weakening which is essential to the yen carry trade’s effectiveness. 
Ironically, it strengthened much more when this morning’s US economic data hit a few hours later (the yellow arrow.) The e-minis (in purple) declined all of 4 points in sympathy, but added back 8 points as USDJPY “recovered.”
The “market” might be manipulated, corrupt and very much rigged, but it’s not stupid. The downgrading, the continuing economic malaise in Japan and the US, all point to one thing: more magical fabric!
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COMP has been one of those nonsensical indices that — just when you thought it was finished — always found a way to make new highs. That was, of course, until August rolled around.
It broke down through every element of support we discussed in our last update: the rising wedge, the red TL, the 2007 high, and even the .886. Most importantly, the red channel which has guided its incessant rise since 2009 finally gave up the ghost.
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According to folklore, if a groundhog emerges from its burrow then a spring thaw will come early. If, instead, it sees its shadow, it’s scared back into its burrow and winter will continue for another six weeks.
Haruhiko, the carry trade groundhog, poked his head out of his burrow last night, saw the strikingly bright light of futile, failed policy, and quickly withdrew. There will be no more QQE (at this time) to thaw the market’s recent freeze.
Although the yen can and has been heavily manipulated without QQE expansion, it’s been a key component of the carry trade since 2011.
USDJPY traded as low as 119.39 before the intervention arrived, boosting ES by 6-7 points in the hour after dismal retail sales and Empire Mfg numbers raised “bad news is good news” hopes that the Fed won’t also disappoint.
But, the bottom line is that it’s now up to the FOMC to prevent an extended winter for stocks.
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RUT overshot the large white channel top for most of the past year, dropping back below it in late August when the rest of the “markets” took a pause. Note, however, that the yellow channel top never was exceeded.
As we noted at the time, the smaller white acceleration channel broke down. But, RUT climbed alongside its belly rather than react as indices normally would.
The late-August plunge changed things.
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NG recently completed a large Bat Pattern (though it came up a bit shy of our actual target: 2.443 vs 2.425.) That pattern completion is normally good for a bounce to at least the .618 Fib, which is at 3.656.
But, like CL, NG is being artificially suppressed in order to facilitate a cheaper yen. When it comes to Japan, it remains to be seen whether central bankers can handle that kind of inflationary pressure.
If, instead, they wish to manipulate it lower, the white channel bottom down around 2.00 would make a nice downside target. Note the strong channel support from 1999 in the long-term chart below.
