Broken Markets? What The USDJPY And The Nikkei Divergence Is Saying

Oct. 17, 2017 5:35 PM ETFXY, YCS, JYNFF, YCL14 Comments
Andrew McElroy profile picture
Andrew McElroy


  • Breakdown in traditional correlations are usually temporary, but they still tell us something about the state of the markets.
  • What does the USDJPY / Nikkei breakdown tell us?
  • Two sides to correlation coin. Which are you on?

Anyone trading the Nikkei (EWJ) or USDJPY (FXY) must surely know the correlation between the two markets is strong. A falling Yen equals rising Japanese equities. But recently something strange has happened.

Breakdowns in traditional correlations tell us something is changing in the market. But what?

The Fundamental Bond

The primary driver of the Nikkei / USDJPY correlation is deflation. The worse the Japanese deflation problem gets, the more monetary and fiscal stimulus is needed.

A break-down in the correlation suggests reflation. It is a common theme in the last 12 months, and the hawkish shift in some central banks is well known. Is it moving to Japan?

The simple answer is 'no'. Or at least there is no evidence, yet.

The uptick in inflation is very small given the amount of stimulus. And it is certainly not significant enough for the Bank of Japan to change direction. In fact, on the annual anniversary of the launch of its yield curve control measures, members voted 8-1 to keep the current policy intact.

And in case you think the one dissenting voter is shifting hawkish, actually Goushi Kataoka voted against yield curve control on the grounds that current easing is insufficient.

For now, he is a lone voice, but Nomura expect his view to gather support,

‘From a longer-term perspective, we think a resurgence of expectations for further easing is likely, given the substantial risk (noted by the BOJ itself) that inflation could fall below the BOJ's forecasts, with inflation expectations slow to rise. We think Mr Kataoka's opposing vote could even be seen as laying the groundwork for such a resurgence.’

Reflation is in its infancy in most countries, and is still a distant hope in Japan.

Driving Divergence

So if reflation is not the cause, what is?

The easy

This article was written by

Andrew McElroy profile picture
Chief Analyst at Author of the ebook 'Fractal Market Mastery.' Trend follower and market timer. All time frames, all instruments. Wherever I see an edge, I trade it.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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