The BoJ surprisingly widened the tolerated trading band for 10y JGBs by 25bp, driven by concerns about market functioning, and USD/JPY has already moved 4% lower in response. From here, the path for Yen will depend on whether this is indeed a technical realignment, as the BoJ has said, or if it is the start of a new, tighter monetary policy regime. If the former, there should be fairly limited spillovers for the Yen, especially given that the huge move down in USD/JPY already exceeds the model's price for an end to YCC. However, if this is indeed the start of a regime shift in Japan, then there would clearly be more room for the currency to run.
For now, at 130 USDJPY, assume that the move was a technical adjustment and a sign that policy rates could be adjusted further in the coming months but that the basic BoJ framework is unchanged. Specifically, the BoJ continues to prioritize sustainable and stable 2% inflation, So the BoJ remains on hold, including maintaining YCC for the next year. While it is possible that further market functioning concerns lead to another shift in BoJ policy, the next step of completely terminating YCC is more likely than adjusting it again. But if a recession takes on more weight, the global bond pressure that has pushed JGB yields up recently may become softer as global activity slows.
As for the currency, USDJPY has been primarily rates play through 2022. and since the US rates will be afforded a higher degree of freedom than JGBs in 2023, it is still very much a rates trade in my view. So if you think front-end rates markets are over-pricing recession odds and under-pricing the Fed cycle, US rates should drive USD/JPY back higher over the coming months. However, I would be very reluctant to play the long USD/JPY trade in the near term because the market is likely to raise the odds of a more material BoJ shift, which is a real possibility, given there has also been a shift in BoJ communication recently.
We re-engaged small shorts at 132.775 pre-US PCE data and looking to add up to 133.75
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