Bank of Japan blinks!
Since 2016, the Bank of Japan (BOJ) has pursued an interest rate policy referred to as Yield Curve Control (YCC), in effect pledging to let the yield on its 10 yr bonds fluctuate within a tight band. They began at 0.10% above or below zero and widened to 0.25% later. The BOJ was the only central bank of a significant economic country to maintain this policy as most central banks began raising interest rates to combat inflation. This put significant pressure on their currency, the yen, which traded as much as 25% lower versus the US dollar this year. A move of this magnitude has significant ramifications on the country’s local economy, not the least of which is raising the cost of energy (priced in US dollars), which Japan largely imports. In an unexpected move, the Bank of Japan (BOJ) announced a policy change that surprised markets this week, widening the band of the YCC policy to 0.50%. Despite their insistence that this is NOT a change in their policy, many market participants took this to mean that the BOJ was finally concerned enough about inflation to raise interest rates gradually. The knock-on effects vary widely, but the decision immediately boosted government bond yields globally.
Economic news or noise?
It was a light week of economic data, indicating a mixed picture. On a positive note, consumer confidence, Q3 Gross Domestic Product (GDP), and jobless claims all came in better than expected. While housing continued to show deterioration, and the index of leading economic indicators came in negative for a 9th straight month. Meanwhile, the Personal Consumption Expenditures (PCE) index, the Federal Reserve’s preferred measure of inflation, came in slightly higher than expected. However, the 3-month trailing core PCE annualized average was below 4% for the first time in over a year. Markets continue to react to economic data through the lens of how it may affect the Federal Reserve’s interest rate policy going forward. On the one hand, strong economic data allow the Federal Reserve to continue raising interest rates. In contrast, on the other, inflation trending lower gives them the ability to slow or pause. The mixed data we saw this week and markets with low liquidity given the holiday season resulted in range bound, though still lower trending prices. At this point, we are unlikely to experience much clarity about market direction until the new year.
Something is brewing in Russia/Ukraine war
Ukrainian President Zelensky traveled first to the front lines of the war before hopping on a flight to the US to meet with President Biden and Congress and make a case for additional US aid. Meanwhile, Russia’s former president, Medvedev, currently Chairman of the Russian Security Council, traveled to China to meet with President Xi Jinping. Putin paid a surprise visit to his ally Belarus, and there were reports of increased Russian Navy activity in the Black Sea. Leaving our biases aside, Zelensky continues to defy all odds, impressively using his showman and salesman ability to keep his underdog Ukraine in the fight for its freedom. Meanwhile, Putin continues to lose face and is under pressure from countries like China to end the war. Our concern is that Putin, feeling like he is backed into a corner, escalates his aggression to turn the tide in his favor.
