CDS Market Suggests the JPY is in Big Trouble!

The CDS market is suggesting that it may only be a matter of a short period of time before the USD/JPY breaks materially higher

While "Joe Average" reporter is still insisting that the JPY is a safe haven, beneath the scenes stress is building. Usually you will see "stress" show up in the CDS market before others - however, that being said, the problem with CDS markets is that they are very noisy so trying to determine what is noise and what is the "real deal" can be somewhat of a challenge! Anyway if Japan was such a "safe-haven" then why hasn't the CDS spread between Japan and the US come back to "normal" levels? The spread continues to be wider than the level reached during the Fukushima crisis - and up until then that was a record spread.

Spread between US and Japan Credit Default Swaps



Clearly something is wrong and this does not bode well for the USDJPY staying below 80 for much longer!

However, the troubles of the JPY aren't just limited to its performance relative to the USD. It is much broader. Against a basket of currencies the JPY is in even bigger trouble!

While most traders are happy to look at a major market stock index to establish the direction of a market, the majority of traders only analyze the behavior of a currency relative to the USD and a handful of other currencies. I like to look at the behavior of a currency relative to a basket of other currencies to establish its overall directional bias. Below is an index of 12 currencies equally weighted relative to the JPY. This index is very close to signaling a reversal of trend.

Proprietary JPY Index (equal weighting of 12 currencies against the JPY)



A trend reversal at this point would be very significant due to the crowding into the safety of the JPY. It is interesting to note that just a few weeks ago the JPY relative to a basket of currencies  was trading at the same levels as it was during the height of the GFC in 2008. Little wonder why most of the big Japanese exporters are losing money "hand over fist"!

Proprietary Index of a Basket of Currencies Relative to the JPY (equally weighted)



Considering how crowded the "long JPY" trade remains it won't take much to ignite a significant short covering rally in the likes of the USDJPY, EURJPY, AUDJPY, CADJPY etc.

Get long short dated calls on the USDJPY and EURJPY right quick!