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Here’s what the yen is telling us about US stocks now

Talking Numbers

There's been an inverse relationship between the yen and the S&P 500. Is one an indicator for the other or is it about something bigger?

The US dollar has just made five-year highs against the Japanese yen. Does that mean we can expect new highs for the US markets?

If one were to overlay a chart of the US dollar versus the Japanese yen over the past year on a chart of the S&P 500, one would see a strong relationship. Now that it takes 103 Japanese yen to buy one US dollar – a level not seen since the dollar fell during the global financial crisis – one could almost assume we should expect to see all-new highs in the S&P 500. And the S&P 500 was around its record highs just a week ago.

However, the relationship between the S&P 500 and the dollar versus the yen is a classic case of what statisticians refer to as “spurious correlation”. That’s when two things look to be related to one another when they’re really related to a third thing not present on a chart.

And that one thing not on the chart is monetary stimulus – not just in the United States but also in Japan.

(Read: Fed's dreaded 'taper' may not hurt after all)

While the Federal Reserve Bank has been adding $85 billion into the financial system every month for over a year (a policy known as “quantitative easing” or “QE”), the Japanese Central Bank has also been adding about ¥7 trillion ($68 billion worth) into the Japanese economy every month since early spring of this year. While that’s smaller than the American QE, it has more of an effect on Japan since the Japanese economy is about a third the size of the US. More yen in the world relative to US dollars also means a weaker yen and a rising dollar.

As well, like in the US, newly-printed Japanese money seems to find its way into stocks. The Japanese benchmark Nikkei index is up 48% year-to-date in Japanese yen terms compared to the US benchmark S&P 500, which is up 26% since the start of the year.

It hasn’t been just stimulus in the US and Japan boosting equities according to currency expert and CNBC contributor Andrew Busch, editor and publisher of The Busch Update. Lower interest rates in Europe while the European Central Bank stated its commitment to the euro also made for higher stocks.

“All three were firing on all cylinders,” says Busch, referring to the Fed, the BoJ, and the ECB. “It’s not just one currency but all of them move together. And, that’s really positive for stocks.”

(Read: Busy next week with Fed meeting in focus)

But don’t bet on the relationship between the yen and the S&P 500 to last, according to CNBC contributor Gina Sanchez, founder of Chantico Global.

“All of these stimulus programs have caused these co-movements,” says Sanchez. “But, that is potentially about to end and these are going to become asynchronous.”

To see the rest of the analysis by Busch and Sanchez on what the yen is telling us about US markets, watch the video above.

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