Bank of Japan (BoJ) preview: Little surprise as the consensus, but policymakers’ communications remain in focus

What to expect at the upcoming Bank of Japan (BoJ) meeting?

The BoJ is set to hold their monetary meeting across 18 – 19 December 2023, with wide consensus for its short-term interest rate target to be kept unchanged at -0.1% and for the 10-year bond yield around 0%. However, similar to previous meetings, key focus will revolve around any tweak in policy wordings from the central bank or any adjustment to its yield curve control (YCC) policy, as the BoJ continues to take intermittent steps towards policy normalisation.

To recall, the BoJ has jolted markets same time last year by loosening the shackles on its 10-year yield target, allowing a 50 basis point (bp) band on either side of its 0% target. Since then, the central bank has further raised the band to 1% in July this year. And in October this year, the BoJ guided for more policy flexibility by shifting its language to refer to the 1% bound as purely a ‘reference’.

While the above steps suggest that an eventual policy pivot remains a matter of when and not if, communications of its timeline from BoJ officials have been muddled. That leaves sentiments highly sensitive to any words from policymakers, with market participants latching on to any slightest verbal cues of policy normalisation from BoJ officials to call for an earlier policy pivot.

Just last week, BoJ Governor Kazuo Ueda comments of a “more challenging” policy management from the year-end into next year have triggered a flood of hawkish bets, only for policymakers to deliver some pushback in the days after. With that, market participants will be seeking for further clarity at the upcoming meeting as to whether the comments may have been misunderstood. For now, broad market expectations are priced for Japan to scrap its negative rates only in the second quarter of 2024.

Markets pare earlier hawkish bets to price for little surprise at the upcoming meeting

After an initial surge on BoJ Governor Kazuo Ueda’s earlier comments, Japanese 10-year bond yields are back towards the downside, paring earlier gains on expectations that previous hawkish bets may have been overblown. The implied volatility for the 10-year government bonds futures has also witnessed less of a surge as compared to previous pre-meeting lead-up, which may suggest broad expectations that the upcoming meeting may deliver little surprise.

The weakness in the US dollar and recent plunge in oil prices may still offer room for the BoJ to exercise patience in its policy settings for further wait-and-see into year-end. A crucial policy-pivot criteria that Japanese policymakers are watching is wage growth, where it deemed any sustained, broad-based wage increase as necessary to durably achieve its 2% inflation target. Japan’s cash earnings stood at 1.5% year-on-year growth in October 2023, and while that has been minor strengthening, the central bank will likely remain on the lookout for more indications of an improving wage trend to provide conviction for a policy shift.

USD/JPY: Can the upward trend continue?

The USD/JPY had a stellar run through the bulk of this year, driven by the widening US-Japan bond yield differentials as a result of monetary policies’ divergence. But with a peaking Federal Reserve (Fed)'s hiking cycle, alongside the BoJ talking up the need for policy normalisation, the policy-divergence story may be set to reverse in 2024.

In terms of sentiments, the Commodity Futures Trading Commission (CFTC) data revealed that speculative net-short positioning in the Japanese yen continues to hover near its extreme last week, briefly touching its highest net-short levels in five years during mid-November this year. The extreme-bearish take among speculators may offer room for potential short-squeeze opportunities if hawkish expectations for the BoJ were to be validated.

On the technical front, the USD/JPY has managed to find some support from its 200-day moving average (MA) last week but there is not much conviction that buyers are in control just yet. An ascending channel pattern in place since the start of the year has given way last week, while the pair is also trading below its Ichimoku cloud support (daily) for the first time since April 2023, which raises the odds of a wider trend reversal. Greater conviction for buyers may have to come from a move back above its 7 December high to pave the way to retest the 149.20 level next. On the downside, the 144.00 level may serve as immediate support to hold.

Nikkei 225: Still looking for a break above its year-to-date high

The Nikkei 225 index tends to track the S&P 500 movement closely and given that the S&P 500 has registered a new year-to-date high this week, eyes are on whether the Nikkei 225 can deliver as well. Thus far, an earlier attempt to break its June 2023 high at the 34,000 level did not find much success, with momentum oscillators losing some ground as a sign of easing upward momentum in the near term.

Nevertheless, the broader upward trend for the index remains intact. Any attempt to retest the 34,000 level of resistance will be on watch, with any successful break to a new multi-year high potentially setting its 1989 high in sight next. On the other hand, a deeper retracement may leave the 32,000 level on watch as crucial support to hold, where the lower edge of the Ichimoku cloud on the daily chart stand alongside a key Fibonacci retracement level.