Disappointment in G7 May Be Built In

Such a strong report may renew speculation that the Bank of Japan may indeed raise interest rates at its Feb. 20 meeting. Many analysts, myself included, have been surprised by the length of time between hikes, and some have given up on a rate hike in the current fiscal year. Those members of the BOJ board who voted in January in favor of a hike still sound hawkish, while some from the majority seem to be in no hurry to switch sides, and the market appears to remain closely divided.

Third, market positioning among the speculative community appears to remain deeply short the yen. Earlier it appeared to me that the jawboning of European finance ministers would have produced a stronger bout of position squaring, but the market appears to be positioned for disappointment from the G7.

And with the event out of the way, shorts may reconsider their aggression. Indeed, given the deflation of market expectations, it wouldn't be difficult to envision a statement from the G7 that essentially reiterates its old saw about how currencies have a role to play in reducing global imbalances. That's G7-speak for "the dollar should fall and Asian currencies should rise."

I also had expected that if the G7 were to disappoint, the Swiss franc would suffer in sympathy with the yen. However, the Swiss franc has been sold off hard. Here, too, the price action warns that the market may have sold the rumor and may be poised to buy the fact. Over the last couple of weeks, Swiss National Bank officials have sounded particularly hawkish and more concerned about the weakness of the Swiss franc than appeared to be the case a few months ago.

That said, the soft January Swiss consumer price index (-0.7% month over month and +0.1% year over year) may have given some participants second thoughts about a March rate hike from the SNB. It is true that Switzerland's inflation is below Japan's, but Swiss National Bank officials seem more adamant about normalizing.