While there are several key events this week, one rises above the rest: the Federal Reserves’ June policy meeting on Wednesday, and ensuing press conference with Fed Chairman Ben Bernanke. Since the May 22 Congressional hearing in which he said that the QE3 taper could begin at one of the “next few meetings,” financial markets have been pricing in the beginning of end of the Fed’s recent iteration of QE: the S&P 500 has fallen over -5% from its May 22 high at 1687.18; and US Treasury yields have hit their highest levels in 16-months, with the 10-year note yield rising as high as 2.2913% on June 11.
Certainly, in recent weeks, this information has been lost on the USDJPY: the pair hit its lowest level in two months when the USDJPY slid below ¥94.00 on Thursday. And while recent volatility across Japanese financial assets has contributed to the rebound in the Yen, I think that the USDJPY has been perhaps the best true indicator of what the Fed is going to do this week.
While Chairman Bernanke on May 22 indicated that the QE3 taper could begin at the next several meetings, the USDJPY topped shortly thereafter at ¥103.73 and hasn’t sniffed said levels since then. Considering that the USDJPY is particularly in tune with US and Japanese interest rate differentials, given the increased influence of even the smallest moves thanks to ZIRP policies, the decline in USDJPY suggests that the disconnect from credit markets is a misinformation signal; the USDJPY shouldn’t be falling in the face of higher yields. Recent key economic indicators out of the United States can explain this divergence reasonably well.
The Fed’s stated circuit breaker for QE3 is known as “The Evan’s Rule,” which states that QE3 will remain in place until either a 6.5% Unemployment Rate is achieved, or yearly inflation gauges exceed +2.5%. Neither of those are close to being realized right now: the Unemployment Rate is at 7.6% as NFP growth now averages
Source: Daily fx
