Dovish reactions to BOJ tweaks – Nomura

As the BOJ tweaked its communication last Friday, JGB yields declined while banking stock underperformed today, points out Yujiro Goto, Research Analyst at Nomura.

Key Quotes

“Our BOJ normalisation expectation index has also declined to the lowest since early April. We believe the BOJ’s communication change has dovish implications in the near future, even though it is neither dovish nor hawkish in the medium term. Thus, the market reaction to price more prolonged accommodative policy of the BOJ is unsurprising to us. As the BOJ removed from the outlook report any mention of timing for achieving the inflation goal, the Bank’s communication will now be more realistic, which means it will sound less optimistic and more dovish. The BOJ’s official communication is now more consistent with “it is still distant from the inflation goal” and “exit strategy discussion is premature,” and miscommunication risks have declined.”

“Recent fundamental developments will also encourage the BOJ to be less optimistic. Inflation expectations among bond investors have started declining again. While 10yr inflation expectations recovered to 1.09% in January, the latest data showed a decline to 1.00%. The BOJ’s quarterly outlook report also showed declines in a number of inflation measures, such as the cost-push indicator, trimmed mean, weighted median, mode, diffusion index or price changes, and most of the surveys on inflation expectations.”

“The output gap continues to improve, which is the only bright spot, but without an improvement in inflation expectations, the BOJ must overheat the economy significantly to reach the 2% goal. The updated inflation forecast also shows more downside risks ahead. As the latest April Tokyo BOJ core CPI inflation also disappointed, the BOJ looks likely to lower its inflation forecast further into the July meeting.”