DB FX Daily: JPY Weakness More Dependent on Short-term Outflows; M&A Flows

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FX Daily: JPY Weakness More Dependent on Short-term Outflows; M&A Flows and USD

JPY Capital Flow Trends Unchanged

In last week's FX Strategy Weekly we adopted a balance of payments approach to analyse capital flows developments in Japan, as this allows us to account for all the onshore flows relevant to the JPY. An update of our charts with the Q1 2007 data released overnight reveals a continuation of the trends observed since the start of 2006. Though portfolio inflows decelerated last quarter, they were still higher from a year earlier, led by rising bond inflows and positive (though falling) equity flows. Why did the JPY continue to weaken over this period? The double surplus in Japan's current account and portfolio flows continued to be offset by soaring `other investment' outflows, which reached a new all-time high of a23tn (USD -193bn) in the year-end to March. These would include flows related to the yen carry trade, as well as increased hedging of portfolio flow inflows. In all, the balance of payments data for the last quarter still points to a rotation of the sources of yen weakness away from portfolio flows towards more short-term outflows, which could be vulnerable to a quicker adjustment should market perceptions of a weakening JPY start to turn.

US M&A Flows A Drag on USD

Treasury Secretary Paulson last week hosted a roundtable discussion on encouraging foreign direct investment in the US, while also announcing plans to create an advisory board to help the US accounting system become more internationally competitive. But while tomorrow's TIC data are likely to reveal continued health in US portfolio flows, longer-term investment flows have over the last year been less favourable to the dollar. For one thing, FDI data available up to the end of last year points to inflows less than 50% the size of those observed during the dotcom bubble of the late 1990's, showing that the US has been lagging behind its international competitors in the current M&A boom. Our own M&A monitor, a more timely indicator of M&A deals which would include corporate transactions beyond those reflected in the US balance of payments, points to large outflows from the US over the last twelve months, with Europe and Canada being the main beneficiaries.