EURJPY has been an interesting cross over the last few months as it accurately depicts the markets gauge of the US-China trade war and the resulting global growth story.
The Japanese yen has made broad inroads this year, despite the domestic backdrop being much of the same; decent domestic growth, but low inflationary pressures rendering the Bank of Japan as the most dovish global central bank.
The reasoning behind the bout of strength is based on market risk sentiment.
The consistent deterioration in US-Sino relations and the resulting slowdown of the global economy prompted the flight to safety and thus a stronger yen. However, lately, the Japanese yen has fallen to a 5-week low against the US dollar as positive trade-related headlines seep back into the market. The US and China are expected to resume trade discussions in October, while last night it was announced that the US will be in conversation with China as early as next week in the run-up to the Washington meeting.
Chart: EURJPY is sitting in a broad downward trend channel
Meanwhile, the euro has weakened predominantly due to slowing global and domestic economic growth rates.
The extent to which the Eurozone economy is slowing has brought into question a new round of stimulative measures from the ECB, which will likely be announced at Thursday’s meeting. Arguably, looser monetary policy will form a layer of support for the single currency, which goes against the traditional economic theory.
The bout of euro strength may occur as support for a flagging Eurozone economy is seen as positive, especially with EURUSD trading around its current low levels.
Going forward, it is hard to judge EURJPY as a currency cross due to its dependent nature on global trade policy.
With the US-China trade war changing directions at the flick of a switch, the directional call for the currency cross is predominantly based on the trade war base case. In the short-term, as President Trump and Xi reconvene and the ECB continues to support the Eurozone economy, risks are tilted to the upside for EURJPY.
Chart: The model of the distribution of EURJPY forecasts is tilted to further EURJPY downside by the end of 2019, with a few extreme outliers raising the mean.
Our base case assumes a trade deal will not occur this year, suggesting an extension in the EURJPY downtrend is likely at the back-end of 2019.