USD/JPY Breaks Down Below 160 Ahead of the BoJ Announcement

USD/JPY Talking Points:

• As I said in the Tuesday webinar I would be surprised if Japanese policymakers didn’t address the matter in some way this week, with the 165 level getting closer on the major pair.
• USD-weakness ruled the day after the Fed meeting yesterday but the pullback in USD/JPY was brief, as bulls bid support and prodded a bounce. This put more pressure on the BoJ ahead of tonight’s rate decision but it looks like Japanese policymakers have tried to pre-empt that with a move that seems to be intervention-related.

Despite being just 13.6% of the DXY basket, the Japanese Yen can carry significant weight across major FX pairs as the long-term, built-in carry trade creates massive swings on either side of the equation. We saw this two years ago, when USD/JPY was initially running above the 160 handle and the BoJ intervened on the morning of a US CPI print. That episode ended up coming along with a pretty major risk off campaign in stocks and just a few weeks later, we had the VIX index spiking above 60 as anxiety pulsed through markets. This was an example of the leverage produced by the carry trade coming out of the high flying names that had led the rally in stocks for much of the prior year-and-a-half.

At this point we still don’t know what this will look like as there’s several variables in the air, so it’s probably best to focus on what we can see on the chart and deduce what might be behind it so that we can position accordingly.

Yesterday’s Fed meeting came with a legitimate prospect of a rate hike. I thought this idea was overly-priced as it made little sense to me that the Fed Chair that Trump spent months setting up would suddenly go against his wishes. Instead, that press conference at the rate decision sounded like a well-polished politician explaining why rates would not be hiked even though he said inflation was such a priority.

Very quickly we saw those rate hike bets price-out with long-term yields jumping and the US Dollar falling. But – as I often say during webinars – the DXY basket is merely a composition of underlying currencies so pivotal to its performance is what happens in those other currencies, and that’s where the story takes us this morning.

Initially – that pullback was an opportunity in the USD/JPY trend. Price pushed right back down to support at which point buyers responded. If you’re at the Bank of Japan or the Ministry of Finance, that’s probably unwelcome as the Bank of Japan rate decision later tonight is widely-expected to bring no increase to rates. And as I’ve covered in the past, hiking rates isn’t exactly a popular thing in a Japanese market that’s staring at an aging and dwindling population, where risking growth could lead to even more political volatility.

So it seems this was a pre-emptive strike to avoid an even more uncomfortable situation as, given the price action, it appears as though there was an intervention-related drive to create the retracement in USD/JPY.

At this point the daily sell-off is sitting at 440 pips although there’s still a lot of tape left for today, so that can change. Price is now below the 160.00 level which is a key spot on the chart, but the fundamental bias is still tilted towards the long side of the pair. So perhaps the bigger question here is for how long the pullback might run before buyers start to jump back in, similar to retracements seen in January, February and then April/May of this year.

USD/JPY Daily Price Chart

Chart prepared by James Stanley; data derived from Tradingview

USD/JPY What Can Shift This?

In prior episodes that have turned into more of a reversal, we usually had weakening US bringing on hopes for US rate cuts. That helped to narrow the fundamental divergence between the two economies in the pair and thus, gave reason for bulls to close positions.

This morning’s Core PCE data came in at the expected 3.3%, well elevated above the Fed’s target so we’re not exactly in a place where rate cuts make more sense than they did yesterday.

The x-factor here is the Fed, and the fact that Warsh is perhaps a bit easier to gauge after yesterday’s rate decision and the fact that, despite sounding hawkish it seems he doesn’t actually want to raise rates.

But the Bank of Japan and the Finance Ministry should not be underappreciated here as they’re not stupid, and they’re likely going into tonight’s BoJ meeting aware that a lack of forward guidance towards hikes could bring with it a strong bid to the pair. And if buyers just crowd right back in and push price back up towards highs, any intervention that may have happened would be cash simply burned for nothing to show for it. So short term, there’s still very much the possibility that more stops get triggered and a deeper pullback appears particularly if prices bounce such as they did after the initial reaction from yesterday’s Fed meeting.

From the 30-minute chart below there’s a couple of specific areas of interest, with the 160.00 level as the next big figure above price. Above that are prior swing lows at 160.43 and then 161.29 and 161.81.

USD/JPY 30-Minute Chart

Chart prepared by James Stanley; data derived from Tradingview

--- written by James Stanley, Senior Market Analyst, Global Macro