• Yen nears October 2022 lows against dollar on BoJ disappointment

• Will a hawkish Fed trigger a yen intervention episode?

• Gold, oil retreat as Middle East fears ease

• Wall Street closes in the green ahead of Fed decision

The dollar traded higher against all the other major currencies on Tuesday, gaining the most ground against the yen. The Japanese currency came under massive selling interest after the Bank of Japan disappointed those expecting bold changes to its yield curve control (YCC) framework following a Nikkei report that said that officials were considering allowing long-dated yields to rise above 1%.

Yes, policymakers proceeded with adjustments to their framework that will allow 10-year Japanese government bond (JGB) yields to rise above 1%, but they didn’t ditch the cap. They just redefined it from a rigid ceiling to a reference bound, which means that should officials judge it necessary, they will jump into the bond market again. And indeed, this is what they did today. They intervened into the bond market to rein in a jump in yields to fresh decade highs.

All this suggests that, although the BoJ is phasing out its YCC policy, the process will be much slower than anticipated by the markets and that’s probably why the yen tumbled, allowing dollar/yen to nearly touch the peak of October 2022 at 151.85, the level hit just before Japanese authorities intervened into the FX market then.

Dollar/yen is now pulling back, perhaps on fears of intervention as Japan’s top currency diplomat Masato Kanda said today that they are on standby to respond to recent “one-sided, sharp” moves.

What could propel the pair higher and perhaps trigger an intervention episode may be a clearly hawkish message by the Fed later today. With policymakers saying that the surge in Treasury yields since their last decision has done the work for them, implying that another hike may eventually not be needed, market participants are certain that there will be no rate increase today, while they assign only a 40% probability for one final 25bps hike by January.

They are also penciling in around 75bps worth of rate reductions by the end of next year, but with the US economy continuing to fire on all cylinders, the risks may be tilted to a hawkish outcome. Even if officials do not hint at another rate increase, there are no economic signs justifying so many basis points worth of cuts. Therefore, there is a decent chance for Powell and Co. to reiterate the view that interest rates may need to stay high for longer than the market is currently anticipating, which could prompt investors to scale back some basis points worth of rate cuts, and thereby further support the dollar.

Investors may be also awaiting the US Treasury Department’s quarterly refunding statement for details on which maturities are likely to see more issuance than others as the Department opts for record borrowing levels. On Monday, the Department said they expect to borrow less than previously estimated in the fourth quarter, but borrowing is expected to re-accelerate in the first quarter of 2024.

Gold extended its retreat and oil prices fell yesterday as fears of further escalation in the Middle East continue to evaporate. If the situation remains as it is, the pullbacks are likely to continue as the market slowly turns its attention back to other developments. That said, with Israel’s prime minister ruling out a ceasefire,  the prospect for further escalation and an abrupt change in market sentiment remains on the table.

Wall Street indices finished yesterday’s session in the green, perhaps as investors looked for bargains after the latest slide and ahead of the Fed decision. That said, the risk of a hawkish message today may prompt many to hedge their positions heading into the decision, as strongly highlighting the “higher for longer” mantra could result in a higher implied rate path and thereby weigh on equities.