The Bank Of Japan Raises Rates!

Good day… Well… The Bank of Japan DID raise rates last night by 25 BPS to 50 BPS, or 1/2%… One would have thought that this move would have motivated traders and investors to begin to accumulate yen… Unfortunately, that did not happen, as the Bank of Japan (BOJ), threw cold water all over their rate announcement with gibberish about rate expectations not getting bold, and that future rate increases would be gradual…

No Duh! We had to wait 7 months for this rate hike since the last one! Talk about “gradual”! Anyway… The fact remains that the BOJ DID raise rates… I guess I won’t be hearing from all those folks that used to send me emails telling me what a dolt I was calling for rate hikes in Japan. Shoot Rudy… With growth at 4.8% in 2006, the BOJ had better step up the “gradual” rate hikes, before inflation becomes a problem! That’s right, the country / economy that endured 10 years of deflation, could very well see inflationary pressures, given that Private Consumption (Consumer Spending) increased 1.1% in the 4th QTR, or annualized 4.4%! For the last dozen years, that’s unheard of in Japan…

So… All those short sellers of Japanese yen, had better be careful…

OK… The currencies range traded yesterday with a bias to sell dollars, which was OK with me… Australian and New Zealand dollars both saw big positive moves after the BOJ doused their rate hike with cold water… The reasoning here is simply that their rate differentials will remain in tact longer, given the “gradual” indication of future moves by the BOJ.

You know… That New Zealand dollars have received a ton of investment as the offset currency to the funding currencies of yen and Swiss francs, on the carry trade. Kiwi also gets a ton of Uridashi bonds issued… Recall, some time ago, I explained the Uridashi bonds, which are simply Japanese companies issuing debt denominated in kiwi, so they can pick up the yield, making the bonds more attractive to buyers… When creating the bond, the issuer has to buy kiwi, and hold on deposit to receive the interest to pay to the holder of the bond.

Speaking of Swiss francs… The Swiss National Bank’s (SNB) Gov. Roth, has been in the news lately talking about the franc’s weakness… He knows what’s causing it, and isn’t willing to do anything about it at the moment. Basically… He has the ability to raise rates in Switzerland to stop the use of francs as a funding currency for the carry trade… But by doing so aggressively, he risks the chances of stomping the Swiss economy… So… For now, it looks like the franc will remain an alternative funding currency…

Here in the U.S. today, we will see the color of the January CPI (Consumer inflation)… I tell you… I sit here and shake my head in disgust every time I have to deal with CPI, given my distaste for how that data is calculated… But, my disgust goes more to the markets that believe this data is the “Holy Grail” when it comes to measuring inflation, and that the Fed lives and breathes by the report.

But since the markets do follow this, I have to! So… Get this! CPI is forecast to come in at a mere .1% for January. What a crock! That would put annual CPI at 1.9%! Oh… I believe that one! Yeah, and my first wife was a young Elizabeth Taylor… Yeah, that’s the ticket!

Anyway… If the data does come through that weak, the dollar won’t get any love today… Yes, this goes back to the Pfennig I wrote a couple of weeks ago about how things have changed over the years, and that low inflation doesn’t warrant a strong currency any longer… The markets crave high interest rates… And you don’t get high interest rates without inflation!

This thought process is demented… Unfortunately, that’s the thought process in the markets these days, so we have to play the game.

We’ll also see January’s Leading Indicators, which, as I’ve explained should play a bigger role in the market’s direction each month, but doesn’t… Leading Indicators look like they will remain weak rising just .2% in January. So, looking forward, I still believe the dark clouds forming around the economy are going to remain, and get darker.

Finally, the Fed minutes from their last FOMC meeting will print… Since rates remained unchanged, and they already made a statement about dealing with inflation should it rise… I don’t see these minutes providing any direction today.

You know, I just don’t get the market’s reaction to the BOJ’s statement… I think short sellers are going to be very sorry… But that’s just me… Sitting here, thinking logically!

Oh… By the way… I fully expect the BOJ to have Japanese rates at 1.25% this year…

Currencies today: A$ .7895, kiwi .7045, C$ .8565, euro 1.3145, sterling 1.9525, Swiss .8075, ISK 66.30, rand 7.13, krone 6.13, SEK 7.0750, forint 191.60, zloty 2.96, koruna 21.46, yen 120.70, baht 33.80, sing 1.5320, HKD 7.8140, INR 44.18, China 7.7426, pesos 10.99, dollar index 84.30, Silver $13.77, and Gold… $659.10

That’s it for today… Well… Did you eat all the pancakes you could yesterday? Yes! It was Shrove Tuesday! OK… Here goes my Irish heritage again… But in Ireland, Fat Tuesday is called Shrove Tuesday, and shroves are what we call pancakes. Hey! How about my beloved Missouri Tigers! Basketball Tigers beat Oklahoma last night, for a big win! This is a rebuilding year for the Tigers, but they’re still competitive! YAHOO! Crazy day on the desk yesterday, but we’re hanging in there! Have a great Wednesday!

Chuck Butler — February 21, 2007

The Daily Reckoning