ERSTE EUR_JPY Currency Analysis

8/3/2019 ERSTE EUR_JPY Currency Analysis

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Erste Group Research Currency Analysis EURJPY Page 1

Erste Group ResearchCurrency Analysis | EURJPY10. January 2012

Currency Analysis EURJPYFair value close to EURJPY 100 and steadily trending lowerClose to zero interest rates abroad support yenTechnical view: Short-term rebound, long-term drop to 90

Analysts:

Fundamental viewMildred [email protected]

Technical viewRonald [email protected]

The Japanese economy has been in deflation for a decade now. While

price decreases are hampering longer-term growth prospects, theyare also supporting the purchasing power of the currency and thusthe yen. On a relative basis, this is reflected in the appreciation of the yensfair value over time, which we expect to continue slowly but steadily infuture years (the current estimate is USDJPY 78 or EURJPY 97.5).

Purchasing power parity supports yen strength fundamentally

0

50

100

150200

250

300

350

400

Jn.

70

Jn.

73

Jn.

76

Jn.

79

Jn.

82

Jn.

85

Jn.

88

Jn.

91

Jn.

94

Jn.

97

Jn.

00

Jn.

03

Jn.

06

Jn.

09

USDJPY Fair value (PPI JP/PPI US indexed on 1990 USDJPY)

The deflationary environment in Japan also led to a zero interest rate policythroughout the last decade, so that the yens exchange rate dynamics arecurrently almost fully determined by the economic development and interest

rate expectations abroad. Hence, the yen could strengthen further incase of monetary easing by the ECB and/or the US Fed, and will atleast remain at strong levels as long as the close to zero interest ratepolicy is maintained in the US and the Eurozone. Only when US/EZmonetary policy is expected to tighten again is the yen expected to weakenonce more, which is not foreseeable in the next year.

The EUR has been trading in a bear market against the JPY since2008. From a technical perspective, there is no reason to believe thatthis trend will end soon. MACD, RSI, Ichimoku-Charts and Stochasticsare posting convergence and therefore confirm the downtrend. However,from a shorter perspective, the EUR is due for a bounce from oversoldlevels. We envisage a technical rebound to JPY 101.59 (30d moving

average as well as Fibonacci cluster), but the medium- & and long-termtrend seems to point to a further drop to 90 (low fall 2000).


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Fundamental Outlook

The Japanese economy has been in deflation for a decade now. Whileprice decreases are hampering longer-term growth perspectives, theyare also supporting the purchasing power of the currency and thus theyen (decreasing prices imply that the currency is worth more in the future).On a relative basis, this is reflected in the appreciation of the yens fair valueover time. The fair value is based on purchasing power parity stating thatthe same good should cost the same worldwide (for more details, seeCurrency Analysis EURUSD).

Purchasing power parity supports yen strength fundamentally

0

50

100

150

200

250

300

350

400

Jn.70

Jn.73

Jn.76

Jn.79

Jn.82

Jn.85

Jn.88

Jn.91

Jn.94

Jn.97

Jn.00

Jn.03

Jn.06

Jn.09

USDJPY Fair value (PPI JP/PPI US indexed on 1990 USDJPY) Source: Bloomberg, Erste Group Research

As long as Japan remains in deflation, which we expect for the fewnext years, the slow but steady strengthening trend of the yen shouldremain intact. The current fair value of USDJPY is estimated at 78, which combined with our fair value estimate for EURUSD at 1.25 yields acurrent fair value of EURJPY close to/below 100.

The deflationary environment in Japan also led to a zero interest ratepolicy throughout the last decade. Hence, before 2008, the yen hadbeen the traditional funding currency for carry trades. Marketparticipants took out funding in yen to invest in foreign currency

denominated higher yielding assets such as equities or bonds. Thisweakened the yen until 2008, and led to a strong correlation of theexchange rate with equity markets.

Since 2008, however, this has changed. Following rate cuts in the Eurozoneand US to close to zero, yen funding was no longer attractive on a relativebasis, so that carry trade reversals led to yen strengthening lasting untilnow. As is visible on the following charts, the change in interest rateexpectations for the Eurozone and US and for different maturitiesprovides a nice explanation for exchange rate movements over the lastyears.

Analyst

Mildred [email protected]


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USDJPY and 2Y yield differential EURJPY and 10Y yield differential

73

78

83

88

93

98

103

29.06.2009

29.08.2009

29.10.2009

29.12.2009

28.02.2010

29.04.2010

29.06.2010

29.08.2010

29.10.2010

29.12.2010

28.02.2011

29.04.2011

29.06.2011

29.08.2011

29.10.2011

29.12.2011

-0.1

0.1

0.3

0.5

0.7

0.9

1.1

1.3

USDJPY 2Y US - JP

90

100

110

120

130

140

150

29.06.2009

29.08.2009

29.10.2009

29.12.2009

28.02.2010

29.04.2010

29.06.2010

29.08.2010

29.10.2010

29.12.2010

28.02.2011

29.04.2011

29.06.2011

29.08.2011

29.10.2011

29.12.2011

0.1

0.6

1.1

1.6

2.1

2.6

3.1

3.6

EURJPY 10Y DE - JP Source: Datastream, Erste Group Research Source: Datastream, Erste Group Research

With the exception of 4Q10/1Q11 (when inflation was rising globally),interest rate expectations have been on a downtrend. This supports theyens attractiveness on a relative basis, as interest rates in Japan areexpected to stay close to zero for the next few years anyway, but now theyare expected to remain close to zero in the US and the Eurozone too -especially in the light of ECB rate cuts and the interest rate guidanceprovided by the Fed.

Overall, the yens exchange rate dynamics are currently almost fullydetermined by the economic development and interest rateexpectations abroad (deflation and zero interest rate environment in Japan

are unlikely to change anytime soon). Hence, the yen could strengthenfurther in case of monetary easing by the ECB and/or the US Fed, andwill at least remain at strong levels as long as the close to zero interestrate policy is maintained in the US and the Eurozone. Only when theUS/EZ monetary policy is expected to tighten again is the yenexpected to weaken once more, which is not foreseeable in the nextyear.


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Technical outlook

The EUR is trading in a bear market against the JPY since 2008. From atechnical perspective, there is no reason to believe that this trend will endsoon. MACD, RSI, Ichimoku-Charts and Stochastics are postingconvergence and therefore confirm the downtrend. However, from a shorterperspective the EUR is due for a bounce from oversold levels. Price actionjust hit the lower end of the Bollinger band, RSI reached oversold territoryand sentiment turned extremely bearish. We therefore envisage a technicalrebound to JPY 101.59 (30d moving average as well as Fibonacci cluster).Nevertheless, the medium- & and long-term trend seems to point to a furtherdrop to EURJPY 90 (low fall 2000).

Analyst

Ronald [email protected]


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FORECASTS

current Mar 12 Jun.12 Sep.12 Dec 12

EURUSD 1.28 1.27 1.25 1.25 1.25

EURJPY 98.32 99.06 97.50 97.50 100.00

USDJPY 76.83 78.00 78.00 78.00 80.00

Interest rates current Mar 12 Jun.12 Sep.12 Dec 12

EZB MRR 1.00 0.50 0.50 0.50 0.50

3M Euribor 1.28 0.90 0.70 0.70 0.70

Germany 2Y 0.14 0.30 0.35 0.40 0.45

Germany 5Y 0.78 1.00 1.10 1.25 1.40

Germany 10Y 1.86 2.10 2.15 2.25 2.40


Fed Funds Target Rate 0.25 0.25 0.25 0.25 0.25

3M Libor 0.58 0.50 0.40 0.40 0.40

Yield 2Y 0.24 0.20 0.25 0.35 0.50

Yield 5Y 0.85 1.20 1.35 1.50 1.70

Yield 10Y 1.96 2.10 2.20 2.40 2.50


3M Euribor 1.28 0.90 0.70 0.70 0.70

3M Libor US 0.58 0.50 0.40 0.40 0.40

3M Libor JP 0.20 0.20 0.20 0.20 0.20 Source: Bloomberg, Datastream, Erste Group Research


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Contacts

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ERSTE EUR_JPY Currency Analysis