ORLANDO, Florida, June 18 (Reuters) - TRADING DAY

Making sense of the forces driving global markets

By Jamie McGeever, Markets Columnist

Key equity, bond, currency and commodity prices mostly ended

little changed on Wednesday, as investors digested the

fast-moving developments in the Middle East and the Federal

Reserve's latest policy decision and guidance.

In my column today I explain why the Bank of Japan's cautious

approach to reducing its balance sheet will help keep domestic

real rates and yields deeply negative, and keep Japanese money

overseas. More on that below, but first, a roundup of the main

market moves.

If you have more time to read, here are a few articles I

recommend to help you make sense of what happened in markets

today.

1. Early Fed chair nomination could rattle markets

2. Dollar exit could be crowded for some time: Mike

Dolan

3. UK inflation slows but oil price jump creates new

problem for Bank of England

4. China talks up digital yuan in push for

multi-polar

currency system

5. Texas Instruments plans $60 billion U.S.

investment amid

Trump's onshoring push

Today's Key Market Moves

* Oil prices end a volatile session slightly higher,

recovering losses of around 2% earlier in the day. Brent crude

settles at $76.70/bbl, WTI at $75.14/bbl.

* Wall Street's three main indices end essentially

flat,

although the Russell 2000 small cap index rises 0.6%.

* U.S. Treasury yields fall 1 basis point or less across the

curve.

* The dollar edges higher but only just. The Swiss franc is

one of

the biggest movers in G10 FX, slipping 0.3% ahead of Thursday's

SNB meeting.

* Gold fails to scale $3,400/oz for a second day, but the

big

mover in precious metals is platinum, leaping 4% to an 11-year

high of $1,329/oz on continued strong demand from China.

Platinum is up around 25% so far this month.

Markets calm in eye of hurricane

With the Israel-Iran war entering its sixth day, President

Donald Trump leaving the world hanging over his next move and

Washington's involvement in the conflict, and the Federal

Reserve flagging rising 'stagflation' risks, world markets were

remarkably calm on Wednesday.

At least, they were calm by the end of U.S. trading,

regaining their poise after some intra-day turbulence and

settling pretty close to where they ended the previous day.

In some ways, this was surprising, given the newsflow.

Iranian Supreme Leader Ayatollah Ali Khamenei rejected

Trump's demand for unconditional surrender, and the U.S.

president said his patience had run out. Asked if he had made a

decision on whether to join Israel's bombing of Iran, Trump

said: "I may do it. I may not do it. I mean, nobody knows what

I'm going to do."

Later on Wednesday the Fed kept interest rates on hold as

expected, but officials' revised economic projections pointed to

slower growth and higher inflation and unemployment over the

next couple of years. Stagflation.

Trump also resumed his verbal attacks on Fed Chair Jerome Powell

before the central bank's policy announcement, calling him

"stupid" and berating him for not lowering rates like other

central banks.

On the other hand, there was ultimately little change in the

immediate landscape or near-term outlook for investors to price

on Wednesday.

The situation in the Middle East is extremely tense, but no

more so than 24 hours ago. Trump's equivocation may fuel the

uncertainty and tension, but also leaves the door open to more

benign outcomes. Perhaps.

Similarly, Fed officials may think higher inflation risks

mean fewer rate cuts are warranted in 2026 and 2027, but they

maintained their central forecast of 50 basis points of rate

cuts this year.

Investors could reassess on Thursday. U.S. markets will be

closed for the Juneteenth federal holiday, but markets

everywhere else will be open and investors will have a raft of

policy decisions from other central banks to digest too, most

notably from the Bank of England and Swiss National Bank.

The SNB, flirting with negative interest rates again, will be

particularly fascinating. Economists expect it to cut rates 25

basis points to zero, and go negative by the end of the year.

Traders are attaching a one-in-four chance it cuts half a point

on Thursday.

As much of the world frets about the price impact of

tariffs, Switzerland is fighting deflation. The franc has never

been stronger in broad terms, and its safe-haven status could

spur even greater appreciation in the weeks and months ahead.

BOJ caution could keep Japanese capital overseas

The Bank of Japan is taking a more cautious approach to

reducing its balance sheet, meaning Japanese capital invested

overseas is less likely to be coming home anytime soon.

In the face of heightened economic uncertainty and recent

volatility at the long end of the Japanese Government Bond

curve, the BOJ announced on Tuesday that it will halve the rate

of its balance sheet rundown in fiscal year 2026 to 200 billion

yen a quarter.

The central bank began gradually shrinking its bloated

balance sheet 18 months ago and last August began an even more

gradual interest rate-raising cycle, representing a historic

shift after years of maintaining ultra-low and even negative

nominal rates.

All else being equal, this modest tightening would be

expected to narrow the yield gap between Japanese and foreign

bonds, making JGBs more attractive to domestic and foreign

investors while also strengthening the yen.

So why hasn't Japanese capital been coming home? In part,

because Japan's real interest rates and bond yields remain

deeply negative, and the latest BOJ move suggests this is likely

to remain the case for the foreseeable future.

The prospect of Japanese real returns staying deeply

negative is enhanced by current inflation dynamics. Inflation in

Japan is the highest in two years by some measures and may prove

sticky if Middle East tensions continue to put upward pressure

on oil prices. Japan imports around 90% of its energy and almost

all of its oil.

Japan's yield curve could also potentially flatten from its

recent historically steep levels if the BOJ's decision caps or

lowers long-end yields. And the curve will flatten further if

the BOJ continues to 'normalize' interest rates - something BOJ

Governor Kazuo Ueda insists is still on the table, although

markets think the central bank is on hold until next year.

MARKET MUSCLE

Either way, a flatter yield curve won't be particularly

appealing to Japanese investors who may be considering pulling

money out of U.S. or European markets. And there is a lot of

money to repatriate, meaning even marginal shifts in Japanese

investors' positioning could be meaningful.

While Japan is no longer the world's largest creditor

nation, having recently lost the crown to Germany after holding

it for more than three decades, it still has plenty of financial

muscle with a net $3.5 trillion in overseas stocks and bonds,

the highest total ever.

Analysts at Deutsche Bank estimate that Japanese life

insurers and pension funds hold more than $2 trillion in foreign

assets, around 30% of their total assets.

What would prompt Japanese investors to repatriate? In a

deep dive on the topic last month, JP Morgan analysts said

several stars would have to align, namely a sustainable rise in

long-term Japanese interest rates, an improvement in the

country's public finances, and steady yen appreciation against

the dollar.

That's a tall order. But if this were to materialize, and

banks and other depositary institutions reverted to

pre-'Abenomics' asset allocation ratios of 82% domestic bonds

and 13% foreign securities, repatriation flows from these

institutions alone could amount to as much as 70 trillion yen.

That's just under $500 billion at current exchange rates.

That's not JPMorgan's base case though, certainly not in the

near term. But over the long term, they think some reversal of

the flow of capital from JGBs into U.S. bonds over the last

decade or more is "plausible".

The BOJ's decision on Tuesday probably makes the prospect of

any significant capital shift less plausible, though, at least

for now.

What could move markets tomorrow?

* Israel-Iran conflict

* Australia unemployment (May)

* Philippines interest rate decision

* Taiwan rate decision

* Bank of England rate decision

* Swiss National Bank rate decision

* Norges Bank rate decision

* Turkey rate decision

* European Central Bank officials speak at various events -

board

member Claudia Buch, Governing Council member Francois Villeroy

de Galhau, and Vice President Luis de Guindos

* U.S. markets closed for federal holiday

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