Bank of America has provided insights into its outlook on the Japanese yen, highlighting the potential risk of a third phase of yen weakening in 2024.
Key Takeaways:
BofA's Bearish Stance on Yen: BofA has been bearish on the Japanese yen and expects the USD/JPY pair to remain high due to carry-trade, forecasting it to reach 147 by September, compared to a consensus of 134.
Potential Correction in 2024: The bank does align with the consensus view that the USD/JPY may undergo a correction in 2024 due to policy convergence. BofA's economists anticipate the Federal Reserve to begin cutting rates in May 2024, while the Bank of Japan (BoJ) is expected to withdraw from negative interest rate policy around mid-2024.
Yen’s Downside Risk in 2024: Despite the expected policy convergence, BofA warns that there is a downside risk for the yen in 2024. The market is currently pricing in approximately a 170 basis point rate cut from the Federal Reserve's peak policy rate in fall 2023 to the end of 2024. There is considerable uncertainty about whether U.S. inflation will slow down enough to enable the Federal Reserve to start reducing rates.
Implications if the Federal Reserve Doesn't Cut Rates: BofA raises two important questions for a risk scenario where the Federal Reserve does not cut rates in 2024: (1) How would Japanese retail investors respond? (2) How would the BoJ's policy normalization process evolve?
Three Phases of Yen Weakness: BofA concludes that if the Federal Reserve does not cut rates in 2024, the yen’s weakness could enter a third phase. The first phase is characterized by policy divergence in 2022, the second phase by carry trade in 2023, and the third phase by Japanese households rebalancing towards offshore assets to preserve their purchasing power in 2024.
In Conclusion:
Bank of America is bearish on the Japanese yen and predicts a high USD/JPY pair due to carry-trade. The bank believes that while there is consensus on a correction in 2024 due to policy convergence, there is still downside risk for the yen, especially if the Federal Reserve does not reduce rates. This could lead to Japanese households moving towards offshore assets as a means to protect their purchasing power, marking a third phase of yen weakening.
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