Notes From Underground: The Meaning of the Yen/YUAN Cross

In the past three weeks I have had the pleasure of doing two major podcasts with two of the most highly regarded global macro thinkers and traders: Zoltan Pozsar and Louis Gave. Our discussions led to an attempt to explain the importance of the Chinese yuan during the current period of CAPITAL ANXIETY. During the past two years the Chinese YUAN has rallied from 7.13/dollar to 6.35, where it has sat for the last six months (a gain of 12%). And, as I have argued for the last 18 months, the strengthening YUAN during the pandemic was a signal that the Chinese were shifting to a more domestic-oriented economy using a stronger currency to enrich its nascent middle class.

This analysis lead to investments in BUNGE, ARCHER-DANIELS, energy companies and a multitude of mining consortiums. It was just a week ago that BUNGE and ADM were making all time or decade highs. Last week the YUAN started selling off, dropping more than 4% over the past four sessions, which has stimulated a major correction in all the previous mentioned stocks and commodity prices: food, energy, industrial metals and precious metals.

The bloviators have all maintained that the weakness in the YUAN and commodities was the result of the zero covid policy of the Chinese government, which creates fears of a new global slowdown once you factor in Ukraine and rising interest rates in many of the large developed economies. MAYBE. The YUAN may be slowly reacting to all the things that didn’t affect it for the previous eight weeks but it still begs the question, WHY NOW?

In digging through the mad mind of a global macro trader, it appears that there is another factor at work. The level of the YEN/YUAN cross may be a concern for the Chinese. In the past month the JAPANESE YEN HAS DECLINED by more than 10% against the dollar, euro, Aussie dollar, Loonie, Swiss franc and YUAN. Why has the YEN weakened so significantly? The standard narrative is that BOJ policies continue on the path of QE while the ECB, FED and others are raising rates and beginning the shrinkage of their balance sheets lessening the amount of liquidity in their financial systems.

Also, some initially suggested that Japanese dependence on energy imports was the catalyst to a weaker YEN. (NOTE: This is not a probable cause for me as Europe is heavily dependent on Russian energy exports and yet the EUR/YEN rose by 8%, thus higher interest rates would be a more sensical reason.) Regardless, the YEN has weakened to critical levels versus the YUAN. Louis Gave raised the possibility that the weak YEN against the YUAN was giving Japan a competitive advantage in China versus the EURO as both compete for the lucrative auto and advanced engineered products used by Japanese consumers and manufacturers, driving Europe out of China as Honda gained pricing power against VW.

The level of the YEN/YUAN has significance in as will be covered in a follow-up post but if the YUAN is beginning to depreciate it will cause pain for world markets as a stronger DOLLAR coupled with rising interest rates will be a drag on emerging markets saddled with massive cheap DOLLAR debt. On Tuesday the dollar index reached a two-year high of 1.0232, matching the March 2020 levels when the FED had to open DOLLAR swap lines with nine central banks it didn’t previously have a relationship with to ensure enough dollar liquidity for the global financial system, resulting in a decline in the DOLLAR of 12% over the following nine months.

The U.S. Treasury and the FED need to be cognizant of the vast increase in dollar-denominated debt and the systemic stress brewing with a rising DOLLAR COUPLED WITH RAPIDLY RISING, MARKET-DRIVEN INTEREST RATES.

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5 Responses to “Notes From Underground: The Meaning of the Yen/YUAN Cross”

  1. richard dreisen Says:

    WOW ! This is a great summary of the relationships of international cross currents.. It explains so much of what we all are experiencing in many markets. Thank you!

  2. Andrew Pery Says:

    As always Yra, a complex issue, succinctly summarised. One of your best,, Andrew Perry

  3. Andrew Pery Says:

    Thanks Yra – One of your best, always great but one of your best!

  4. kevinwaspi Says:

    As usual, an excellent job in pulling on the right string to untangle a little of this knot. In my humble opinion, the weaker yen will weaken more as Japan takes advantage of trade opportunities in this moving ever closer to stagflation global economy.

  5. Keith Bronstein Says:

    Incredibly important insight
    Thank you

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