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You might think that the economic news might be slowing down this week after the week we have just had. Alas, that is not so; this week's forex market might be just as choppy with some critically important reports emanating from Japan, China, Europe, and the UK, in particular.

What Are Forex Traders Watching At Week's End?

Wednesday

Due on Wednesday, US Retail Sales growth for October is anticipated to increase by 0.7%, the same as September's Retail Sales growth. However, with supply constraints potentially inspiring people to complete some Xmas shopping early, a surprise beat might be on the cards for this report.

Back over the Atlantic, the UK releases its CPI data for October. The YoY CPI for the UK currently stands at 3.1%, after edging down from 3.2% in September. Septembers CPI dip might be temporary, and several factors indicate that CPI could rise with Octobers data. Chief among them is the flow-on effect expected from the UK factory gate prices rise to 6.7% in September, from 6.0% in August.

Thursday

On Thursday, it is Canada's turn to release CPI data. After Septembers data, Canada's inflation rate was running at an 18-year high of 4.4%. Market consensus is pointing toward a fifth straight increase in the CPI, to 4.6%, while TradingEconomics predicts an even more significant leap to 4.9%.

Friday

We end the week with Japan noting its CPI data for October. Sustainable price growth in Japanese consumer prices is in doubt moving forward. Last month, CPI hit 0.2%, after remaining below 0.0% since the latter half of 2020. However, Japanese businesses are largely absorbing the rise in their input costs, whether temporary or permanent, rather than passing them onto consumers.

Inflation data from outside the US should pique traders interest this week. Several major economies will be reporting on actual inflation figures experienced during September 2021.

Will they match their forecasted values, or will the data follow US inflation and surprisingly creep upward?

 

Who should be watching the inflation data?

Traders of the Great British Pound, South African Rand, Euro, Canadian Dollar, and the Japanese Yen should circle these dates in their economic calendars.

 

Why does the Inflation data deserve special attention this week?

While inflation data is usually closely watched, the surprising inflation figures released in the US last week means traders should be extra vigilant with their inflation watching.
US Inflation data

Last week, the US inflation rate (September, YoY) surprised the market by beating expectations. Inflation in the US was expected to report at 5.3%, level with the rate reported in August. However, the actual figure arrived ten basis points higher (5.4%) and returned inflation to the 13-year high seen a month earlier in July 2021.

As it stands, Trading Economics is forecasting inflation in the US inflation rate (October, YoY) to rise another ten basis points to 5.5%. If inflation were to cross 5.6%, a new 30-year record would stand (US inflation Jan, YoY, 1991 was 5.7%).

Calendar Dates to Circle:

United Kingdom, GBP,
Inflation Rate YoY September

Wednesday, 7:00 pm (NZDT)
What is the forecast for Sep: 3.2%
UK Inflation data

South Africa, ZAR,
Inflation Rate YoY
 September

Wednesday, 9:00 pm (NZDT)
What is the forecast for Sep: 4.9%
SA Inflation data

European Union, EUR,
Inflation Rate YoY September

Wednesday, 10:00 pm (NZDT)
What is the forecast for Sep: 3.0%
EU Inflation data

Canada, CAD,
Inflation Rate YoY September

Thursday, 1:30 am (NZDT)
What is the forecast for Sep: 4.1%
CA Inflation data

Japan, JPY,
Inflation Rate YoY September

Friday, 12:30 pm (NZDT)
What is the forecast for Sep: -0.4%
Japan Inflation data

GBPJPY W1

1 GBP is currently trading at ~155 JPY, which is an important touchstone for the pair. The GBPJPY last touched (and notably rejected) this level in December of 2017. Before this, a period of consolidation occurred just above this price level in early 2016, before dramatically breaking down to its lowest point in the twenty-tens.

An important question to ask is: Where is the pair headed in the second half of 2021?

Will the pair bounce off this important touchstone and head back down to a sub 155 price level? Or, will the GBP penetrate past this point and head for a price level circa above 160?

GBPJPY H4

An early indication of whether the pair bounces off this touchstone or penetrates it can be found in the smaller time frame charts. At the H4, the bulls show early promise, with some intense upwards pressure at the end of May. The intense upwards pressure occurred after a prolonged period of ranging. A slight drawdown has predictably occurred after this push. However, the pair appears to be moving to the upside again after shaking off the early profit takers.

However, it is far too early to make a call either way.

Let’s look at some events are may affect the trajectory of the pair in the near future. Two important events that I am keeping an eye on are the Tokyo Olympics and the health of the manufacturing sector in Great Britain.

Tokyo Olympics: Will they, won’t they?

Tokyo Olympics yen

The Japanese Government are marching staunchly toward an Olympics opening date of 23 July. But what happens if the Olympics are postponed again? I’m of two minds in this regard. The Yen might strengthen because investors will recognise that the country will be at less risk for another Covid outbreak without thousands of athletes flying into the country to compete. Or, the Yen might weaken, with ‘bad news’ begetting ‘bad news’.

Great Britain Manufacturing PMI (May)

The report hinting at the health of GB’s manufacturing sector is released in half a day. A solid value of 66.1 is expected, the same as last month, signaling that the sector is continuing to expand at a pace.

A spike in demand from China and the US was recorded in April, resulting in a record level of 61.1. I anticipate a slight tapering off in demand moving forward as the cost of inputs rise, and these costs filter into the sticker prices of goods. But this is might now appear until June or July PMI figures.

USD/JPY Looking For 100?

We have seen a clear downtrend in the USD/JPY since the U.S peaked in early April. The Coronavirus saw a rush to the cash, specifically the Greenback.

However, with the financial markets roaring back to life since then, the love for the Greenback has faded. Furthermore, many Japanese investors bringing back their capital out of U.S stocks back into their home currency, the Japanese yen. This has pushed the pair lower, with it currently sitting at 106.

This contrasts with the countries' main stock index, the Nikkei 225, which has reached all-time highs touching 30,000. The last time it got close to 30,000 was in 1991, where the index touched 26,000.

If you held the Nikkei 225 from 1991 till the start of 2021, you would have been down 0.4%. In comparison, if you have held the S&P 500 from 1992 till the beginning of 2021, you would have been up around 1000%.

USD/JPY Playing Well In The Channel

USD/JPY downtrend has been following a consistent channel

We can see the USD/JPY adhering to this downwards channel diligently, with a breakout in around June. We are currently witnessing a breakout similar to that in June, and if history is a guideline for the future, we may see the pair retreat back into the channel, possibly hitting the 100 mark in the middle of March.

Japan – A Currency Manipulator?

Many Asian nations, including Japan, have been accused of manipulating their currency, specifically to the downside.

It is estimated that foreign exchange reserves held by 12 Asian nations total more than 6.5. Trillion dollars, up 500 billion to counter the effects of the Coronavirus. Asian countries buy up foreign currency using their own, flooding the market with a flush supply of their currency, pushing their currency's relative value lower. This benefits their exports, as it would be cheaper to purchase their goods in other countries – beneficial when your country is dependent on exports, and you are in the middle of a Pandemic.

This could be why there has been a steady downtrend in the U.S dollar against the Japanese Yen. We saw a steady rise from the start of 2020 in Japan's foreign currency reserves from 1.34 Trillion U.S Dollars to 1.4 Trillion U.S Dollars, an increase of 660 Billion U.S Dollars.

Battle between the safe havens: USD vs JPY

The Dollar Index at the peak of the Coronavirus lockdown rallied, almost touching 103 – the highest level since 2017. The Dollar index shows the relative strength of the USD to a basket of other currencies. However, a couple of currencies strengthened as everyone was hoarding the USD – The JPY.

The U.S Dollar Index
USD/JPY

If the JPY got stronger, why was everyone talking about USD being a safe haven?

The strength in the US dollar was primarily due to market participants selling risky US-based assets such as US equities due to the market turmoil. As investors and traders sold their assets, they were getting paid in US dollars, pushing the US dollar demand.

 

Why did the JPY rally?

I guess you would call this the “OG” Safe Haven. With the appreciation of the US Dollar relative to other countries but the Japanese Yen, there was a net increase in demand for the Yen relative to the US Dollar. There are many factors as to why the Japanese Yen appreciates during times of uncertainty, with one factor explaining that net demand increase – Japanese citizens’ net foreign assets peaked to 726 Billion in 2019. However, once risk-off events occur, there is a repatriation of those foreign assets (often denoted in US Dollars) bank into their home currency, the Yen. Although Government Debt to GDP is around 230%, Japanese citizens do not share this trait of excess debt. As the New York Times stated, “The Japanese Government is in deep debt, but the rest of Japan has ample money to share.”

The JPY Carry Trade

Another reason may be due to traders winding down their “positive carry” trade. In short, by buying a currency with a positive yielding interest rate and shorting a currency with an interest rate less than the currency you purchased, the overnight swap fee is positive. This is because the interest you gain by holding the former currency is less than the interest you pay shorting the latter currency. With the Bank of Japan having negative interest rates since 2016, it has been a popular short for the carry trade with currency with a relatively higher interest rate like Australia. However, in risk off events such as the Coronavirus, positive yielding currencies tend to get their respective central banks cutting rates, making the carry trade less profitable. Therefore, traders cut their positions, which requires them to cut their positions, buying back the Yen they shorted, increasing demand.

However, one of the main reasons the JPY appreciated against the USD during peak lockdown was because people believe that it is a safe haven. It does not necessarily matter why it is, only that people believe it is. If you know the relationship between risk-off and the Yen's appreciation, then you assume it to be true.

 

Correlation between Risk and the JPY

Since the market has generally been risk on/off due to the Coronavirus, it would be interesting to see whether the Yen has played out as a safe haven. If we take 20th March as the start date (peak of the Dollar index this year) and compare the prices of the SP500 and the USD/JPY pair, we find a correlation of -0.498 (~-0.5). This means on average, a 1% increase in the market, there is a 0.5% decrease in the JPY (vice versa). This shows a relatively strong relationship between risk-on and risk-off assets as off late. In comparison, the average correlation between the SP500 and the USD/JPY pair has been around -0.28. 

 

Which is better for your portfolio – the JPY or the USD?

 

The USD is likely the better choice for your portfolio as this enables you to enter into positions when the time is right. However, it may be worth noting this relationship for swing traders if you want to take advantage of risk on/risk off situations.