The dollar eased broadly, but Goldman Sachs says Japan’s post-election fiscal outlook keeps USD/JPY upside risks alive, with volatility and intervention risk set to rise.
Summary:
The US dollar softened overall, but analysts see Japan’s election outcome reinforcing upside risks for USD/JPY via higher fiscal spending expectations.
Goldman Sachs expects implied volatility in USD/JPY to rise again as fiscal and policy risks re-enter focus.
Analysts at Goldman see scope for USD/JPY to move toward and potentially beyond the 160 level.
At those levels, the risk of Japanese currency intervention is seen rising materially.
Markets are expected to trade cautiously around intervention risk, though analysts warn that restraint is unlikely to last indefinitely.
The US dollar weakened modestly in global trading Monday, but analysts argue that Japan’s election outcome may ultimately reinforce upward pressure on the dollar against the yen, as expectations grow for increased government spending.
According to analysts at Goldman Sachs, the prospect of a more expansionary fiscal stance in Japan is likely to weigh on the yen rather than support it (earlier on this here, and heaps more here) . Higher government outlays are seen amplifying Japan’s structural yield disadvantage and reinforcing capital outflows, particularly if monetary policy remains accommodative.
Goldman expects implied volatility in USD/JPY to pick up again after a recent lull, as investors refocus on the interaction between fiscal policy, yield differentials and political risk. Strategists argue that the market is once again approaching levels where currency stability becomes a policy concern.
In that context, Goldman sees scope for USD/JPY to move toward, and potentially through, the 160 level. A sustained move into that zone would bring the risk of official intervention back to the forefront of trading considerations.
However, analysts caution that the threat of intervention is unlikely to halt yen weakness outright. Instead, it typically leads to more cautious positioning and reduced risk-taking in the short term, slowing momentum rather than reversing it. History suggests that such caution can only persist for so long if underlying macro forces continue to favour a weaker yen.
With Japan’s fiscal trajectory now in sharper focus following the election, and US yields still offering a substantial premium over domestic alternatives, Goldman argues that the balance of risks remains skewed toward further yen depreciation. As a result, volatility is expected to rise, with markets likely to test higher levels while remaining alert to the possibility of official pushback.
