Nikkei extends its gains

Predictably, Japan is off to the races yet again in Asia and has extended its gains on the back of Friday’s performance, making it back-to-back rallies.

Source: Bloomberg

The Nikkei was actually closed yesterday in observance of Culture Day, although futures traded and were already indicating further gains for Japanese equities. Friday’s move saw a record number of yen-denominated Nikkei 225 futures contracts traded, beating the previous record by a whopping 22%. This helped equities rally to six-year highs with overwhelming confidence.

The momentum from Friday has seen the Nikkei and USD/JPY both trade at their highest level since 2007. While momentum and price action remains strong, there is always a risk of profit taking in the short term as some traders lock in profits. However, the smart money will ride the move and trail stops higher should the move continue.

There is also some speculation the sales tax hike will be postponed for 18 months, with a decision due in December. However, the fact the BoJ took action on Friday might be preempting the implementation of the second leg of the sales tax hike. For now, though, I get the sense traders will be looking to buy the dips in Japanese equities and USD/JPY. The fact we also have some key US data this week, including non-farm payrolls, could be a driving force for the USD. Traders are likely to be positioning for another strong US jobs print, which would add to the hawkish bias.

RBA remains on hold

While Japan is tearing away, there has been some activity in Australia, with September retail sales, trade balance data, jobs and the RBA meeting the highlights. September retail sales came in much better than expected at 1.3% (versus 0.3% expected), while the trade deficit widened to $2.26 billion (versus -$1.78 billion expected).

The initial reaction in the AUD was positive, with a minor initial bounce. However, the ABS released revised seasonally-adjusted jobs estimates for the period December 2013 to September 2014 at the same time. These estimates have been calculated using a new seasonal adjustment method identified in the review. The data showed unemployment was actually a bit higher, with June, July August and September all being revised up 0.1%, which was seen as bearish by the market.

The RBA predictably remained on hold and the statement was mostly unchanged. As a result, the pop in the AUD was a bit surprising and was mostly attributed to the RBA acknowledging the ‘lower levels’ it is trading. However, the RBA added that the AUD is above estimates of fundamental value. As a result, I feel this move will be relatively short-lived.

A flat start for Europe

Ahead of the European open, we are calling the major bourses relatively flat. After the big losses we saw yesterday, we could perhaps see a bit of a recovery at the open, particularly for the MIB and IBEX, which had underperformed. The rise in peripheral bond yields drove the euro and equities lower.

Investors should keep a close eye on peripheral bond yields for an indication of sentiment. While the single currency has recovered some ground in Asia with EUR/USD reclaiming $1.2500, traders are likely to continue looking for opportunities to sell into strength. On the economic calendar today we have the latest EU economic forecasts, Spanish unemployment and UK construction PMI. Over in the US, midterm elections will dominate headlines as the Republicans need to win six seats to take control of the Senate.

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