3 risks — reality vs hope, higher yields, politics

3 risks — reality vs hope, higher yields, politics The biggest risk to our view is that actual US fiscal easing turns out to be minimal. But we believe the USD/JPY’s move will be quicker than whatever reality emerges in coming months. China’s unexpected RMB devaluation or any explicit rhetoric to guide USD weakness by the new US administration could eventually trigger significant JPY strength. The other risk is a rapid increase in US long-term yields triggers risk-off trade, supporting Japanese yen. However, we believe a potential correction in US equity is unlikely to reverse the medium-term direction of USD/JPY (though it could cause a short-term pullback as our technical analysis suggests) because higher yields and USD/JPY are backed by fundamentals for now —prospect for fiscal easing. Finally, politics is a significant concern. The President-elect has previously criticized the Japan-US security alliance. A shift away from the Japan-US security alliance could lead to higher geopolitical risk for Japan. It could also lead to more defense spending and expansion of Japanese military capability and could lift prospect for fiscal expansion. A combination of higher geopolitical risk and defense spending is probably less bearish USD/JPY than Japanese equities. Bankof America Merrill Lynch Japan Macro Watch | 14 November 2016 5 HOUSE_OVERSIGHT_014428