The Latest Evidence That A Credit Event Is Near
Banks, Interest Expense & Windfall Taxes
Two weeks ago, the Bank of Japan took its first step towards finally sunsetting its years-old yield curve control program. It was a minor adjustment, but also a tacit acknowledgement that conditions were changing. It was a persistent low growth, low inflation environment that brought about the policy in the first place. Now that growth is showing signs of picking up and inflation is in the 3-4% range, it’s appropriate for the central bank to modify policy accordingly.
The market response so far has not been what was expected. The 10-year JGB yield rose, which was expected, but only to about 0.6%, well below the BoJ’s new 1% cap. The yen, in theory, should have moved higher, but it’s continued its slide and is right around its lowest level since Q4 2022. Market watchers in the past believed that the BoJ would support the yen around the 145 level. It’s at 144.47 as I write this. Could the BoJ be getting ready to intervene and could that add another round of volatility?
A few days later, ratings agency Fitch downgraded the U.S. government’s credit rating from AAA to AA+. The financial markets had a modest reaction with rates rising on the long end of the yield curve, but it was mostly muted and not nearly the reaction we saw in 2011. In the end, the downgrade was largely dismissed because many felt that U.S. Treasuries’ place in the global financial system hadn’t really changed.
Either one of those events could have (and perhaps should have) provoked a bigger risk-off move, but didn’t. Part of the reason is investor complacency and their focus on strong GDP growth, low unemployment and falling inflation instead. It might just be easier to focus on what’s directly in front of you instead of what might be slow-building down the road. If I’m being honest, it’s not that difficult to make the bull case here and it’s a big reason why all four of my signals are risk-on at the moment.
But those are also starting to trend in the wrong direction.
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