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Forex Analysis: USDJPY
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In the past week, the US dollar has weakened modestly having found the $105 level to be a stumbling block, which led into the volatility last week. The US dollar index had been trading higher on the rising US yields, the decline in the euro as Russia’s war in Ukraine escalated and then prolonged and then as the lockdowns in China continued, pushing flows into the Global reserve currency.
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The USDJPY is also trading below its year-to-date high of 135.99, on the back of the latest BoJ’s announcement at the end of last week, that it would maintain the loose monetary policy.
On the BoJ announcement, the yen quickly reversed gains made earlier in the week. Moreover, it helped revive the US dollar more broadly as well on Friday.
While last week’s 75bps hawkish policy update by the US Fed failed to move the US dollar higher, the Fed announced its summary of economic projections with expectations of tightening even more aggressively through the rest of this year. According to market participants, the Fed’s policy rate is anticipated to peak between 3.50% and 4.00% by mid-2023, after which the Fed will need to reverse course and begin cutting rates heading into 2024. The Eurodollar yields are a key indicator in the broader market outlook. A rising curve shows that the deepest, most liquid and sophisticated money market is optimistic of the future. An inversion like we see in the contracts that span from 2023 to 2026 highlight that all is not well and that this market expects some market turbulence soon.
The Fed is actively trying to kill demand as they have no control over the supply side of anything. In the press conference after the FOMC decision Fed Chair Powell said that the Fed are not actively trying to cause a recession. But I have a feeling the markets, and especially the Eurodollar market doesn’t believe him.
Looking at how well the USDJPY did during the last major market recessions, I think it is conclusive that we should be expecting the USDJPY to drop as money flows into the safe haven of the yen should the Fed go too far and (accidently) cause a recession.
The US 2- and 10-year yields are both currently pointing higher after dipping a little following the Feds rate hike decision. The USDJPY had been tracking the benchmark yields higher but had recently decoupled from that relationship. I believe this came down to the fact that the price of oil had also dropped, as that had been another factor that led the yen to weaken in the past. The Japanese economy is based on exports, to higher fuel costs is detrimental to their economic growth. The rising inflation is also largely based on the rising fuel costs, so if we were to see the price of Brent and WTI come lower, inflation would dip, economic demand would dip, and we may see the yen appreciate against the US dollar.
One other piece of analysis to consider before looking at a short-term chart is the ActivTrader sentiment indicator, which shows an extreme number of traders on this platform are trying to already short the USDJPY. It would be better for this cohort to be neutral or long before initiating a short position.
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Using an intraday chart and trading with the higher time frame momentum, a breakout of the 135.58 level looks like a reasonably good trade idea, with the intention of squeezing the retail traders out of their shorts. With the chances of a recession growing in the US as the Fed’s own GDPNow model is already at 0% growth, I do not want to marry my long bias in the USDJPY. But taking intraday breakouts or buying the dips for now seems reasonable. That idea would change if we were to see a change in market structure with a close below the 131.40 level.
