Yen Hits 158.96 and 10-Year JGB Yield Reaches 2.785% After Hot U.S. Inflation Report

Since Japan's 30-year bond auction drew weak demand on Tuesday, Nov. 10, the pressure on Tokyo has come from Washington. A hotter-than-expected U.S. October inflation report landed that night, and by Wednesday, Nov. 11, the yen and Japanese bonds were absorbing the hit.

The yen touched 158.96 per dollar in morning Asian trade Wednesday, its weakest level since late September. Yields on benchmark 10-year Japanese government bonds rose as high as 2.785% as U.S. Treasury yields, which jumped overnight after the CPI data, spilled over.

The Fed gets louder

October core inflation came in at 0.3%. That mattered because Fed Governor Christopher Waller had said before the release that the central bank should weigh a half-point rate hike next month if core inflation reached exactly that level.

After the data, Dallas Fed President Lorie Logan hinted that stronger inflation could warrant a faster pace of increases. Chicago Fed President Austan Goolsbee called the consumer price report "another distressing report, borderline disturbing."

A wider U.S.-Japan rate gap makes the yen a cheap funding currency. Investors borrow in yen to buy higher-yielding assets, which weighs on the Japanese currency.

Jobs data added fuel

The October jobs report had already tilted the odds. Employers added 165,000 nonfarm jobs against forecasts near 59,000, and unemployment fell to 4.1% from 4.2%.

After that report, traders put the implied probability of a December hike at roughly 80%. The two-year Treasury yield moved toward 4.52%. The 10-year approached 4.88% and the 30-year reached about 5.29% in early reaction.

The bond market has not moved in a straight line. On Nov. 7 the 10-year Treasury yield slipped 6 basis points to 4.84% even as hike bets rose, after a recent push above 5%. 24/7 Wall St. read that as the bond market declining to buy the hawkish story. By its reasoning, yields would resume climbing if the market is wrong, tightening mortgage and corporate borrowing costs from already elevated levels.

Tokyo's problem

The Bank of Japan is not standing still. A summary of opinions from its latest meeting showed policymakers remain alert to upside inflation risks and back further rate increases.

Analysts quoted by Dow Jones Newswires say that if markets keep pricing more Fed hikes, the BOJ will likely have to follow to keep the yen from weakening further. The yen's slide comes on top of the weak 30-year auction, which had already left Japan's long end under strain.

The case that a 50-basis-point hike is overdone

Not everyone buys the bigger-hike story. Seiji Katsurahata, an economist at Daiichi Life Research Institute, said speculation about a 50-basis-point December hike "looks overdone." He expects market pricing to settle eventually on 25 basis points. In that case, he said, short-term Treasury yields should normalize and the dollar is likely to face capped upside.

Markets have also repriced Fed bets rapidly in both directions. The pivot toward a bigger-than-usual move could fade as quickly as it arrived.

What to watch

The split inside the Fed is the open variable. Waller set a clear marker and the data met it. Logan and Goolsbee have not committed to a number, but their tone moved with it.

Every new inflation print or Fed speech between now and the December meeting can swing the odds. The outcome sets the yen's direction, and with it the BOJ's next move and the yield Japan has to pay on its long bonds.