The Big Picture: Sep 8, 2014

SPX and ES ramped strongly into the close after tagging our initial downside target Friday, but there’s been plenty of negative news (China, EU, Japan, Ukraine) in the last 72 hours — adding to a somewhat confusing Fib picture.  Note the strong swings in either direction in the past week, repeatedly crossing the IH&S neckline.  I remain partial to the 2nd downside target of ES 1981.50.

2014-09-08-SPX 15 0615

Japan’s economy continues to contract, weakening the yen (and aiding the USDJPY) — a net positive for US stocks. The euro also continues to weaken following the Scotland polling news.  China continues to falter.  Net net, the dollar is the key over the next few days.

Remember the long-term USDJPY chart from December 26, 2013?

We noted that previous tags of the top of the yellow channel from 1998 had not been kind to equities, prompting declines of 22%, 35% and 57%.  We also noted that USDJPY would decline in the next few days, which it did — plunging from 105.43 on Jan 2 to 100.74 on Feb 4.  SPX lost about 112 points as a result — a 6% decline.

What we didn’t see coming was the BOJ’s decision to put a floor under USDJPY at 101.43.  Indeed, ten subsequent attempts to pierce 101.43 were each rejected vigorously — which fueled the dollar-yen carry trade, resulting in a series of new highs for US stocks (the thin purple line.)  The last boost was the strongest, taking USDJPY all the way back to the previous high — and, importantly, the top of that yellow channel yet again.  And, FWIW, the Jan 2 high of 105.43 came in just shy of the .618 retrace (105.57) of the drop from the 2007 high to the 2011 low.

2014-09-08 USDJPY daily 0723

The big question, then, is whether the BOJ will be content with the pair trading below 106, or will they feel compelled to ramp it up to new highs?  Abe’s advisor Koichi Hamada hinted this morning at further yen weakening.  According to Bloomberg:

“The weak yen benefits the economy by increasing corporate profits, capital spending, employment and tax revenues even if it hasn’t boosted exports,” said Koichi Hamada, 78, who helped Abe design his reflationary policies. “It’s a positive for Japan’s economy.  I understand why the BOJ is not trying to stop the yen weakening, as they see sustaining the recovery as important and the weak yen as a tailwind for the economy.  The yen is back at 105 yen per dollar now and it looks like it’s going to weaken even further.” 

This echoes BOJ’s Kuroda, who last week proclaimed that a weak yen “wasn’t negative for the economy.”  A lower yen, of course, boosts exports. The flipside, however, is that it increases the cost of imports — which affects everybody in Japan who eats, travels, heats their home or factory, buys raw materials for manufacturing, etc.

Like the Fed, the BOJ touts a low rate of inflation by excluding many real and meaningful price categories which are positively soaring. With the nukes offline (for now) fuel prices are a particular problem.

Screen Shot 2014-09-08 at 8.32.45 AM

Toss in a 60% increase in sales taxes — and another 25% increase coming next month — and the citizens of Japan are feeling the pain.  Abe’s popularity slumps a little further with every tick higher in prices and taxes.

Bottom line, someone has to be thrown under the bus: either Japan’s consumers or its exporters.  Neither is palatable for the politically savvy Abe, leading us to believe the USDJPY could remain in the 102-106 range for the foreseeable future, with any further declines in the yen limited to Draghi-style jawboning rather than actual intervention.

If it pushes above the January highs of 105.43, however, the question is moot.  It will have broken out yet again.

to be continued…




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