Euro Unfazed by Lower IFO; Yen Nearing A Bottom?

· JPY Corporate Service Price index highest in nine years
· EUR IFO slightly below expectations but still near record highs
· GBP GDP data in line Fixed Capital spending very strong
· USD calendar empty

Much heat but little light in the currency markets tonight, as the generally in line results fromJapan, EZ and UK kept trading contained to very tight ranges in both Tokyo and London sessions. USDJPY continued to trend higher hitting a two week high of 121.64 buoyed by Japanese retail demand for carry, but the release of the Corporate Service Price Index should have provided yen bears with some cause for concern as the data registered its highest reading in nine years jumping 0.6% versus 0.2% expected.

It appears that slowly but surely upward price pressures are beginning to propagate throughout the Japanese economy as the last vestiges of deflation are finally squeezed out of the system. This process may be as slow as molasses but it is nevertheless present and will likely lead to further tightening by Mr. Fukui and company later in the year after the conclusion of Japanese parliamentary elections in the summer. Given this scenario any further upward movement in USDJPY may be limited at best.

The knee-jerk wave of USDJPY buying fueled by the BOJ statement about the “gradual” pace of tightening, could finally hit a cement ceiling as the pair approaches yearly highs at 122.08. Only a rapid pick up in US growth which would prompt the Fed to become decidedly more hawkish could alter the current fundamental landscape strongly enough to justify additional appreciation in USDJPY. Markets being what they are there is of course no assurance that our view is correct, but given the current level of complacency demonstrated by record low volatility readings, combined with a clearly changing interest rate environment, we think that the best days of the carry trade may be history.

In Europe today the IFO report printed at 107.0 vs. 107.5 expected, slightly below consensus but still within striking distance of record highs. The decline in confidence was not dramatic. In fact all of the drama preceded the release as rumors spread across dealing desks that the report may print as low as 104 or as high as 109. The actual number was predictably anti-climactic and the pair budged less than 10 pints either way in reaction to the news. Focus will now turn to next week when the important EZ Retail PMI and Manufacturing PMI data will be released. Traders already consider the 25bp hike in March to be done deal but will want to see if the latest reports confirm the view that economic momentum in the region shows no signs of a slowdown.