It has been 10 days since my last update in the series covering the Japanese yen market gyrations.
Up or down?
You can check out the previous 3 parts below:
Why is the USD/JPY exchange rate so important right now?
To summarize the developments of the last 4 months, the USD/JPY exchange rate started attracting attention first in April 2022 when it broke 125 to reach 20 year highs. Then in June it went over 135 reaching even bigger headline-making 24 year highs. I am saying highs, but since the Japanese yen is the second currency in the USD/JPY pair, these are actually lows for the yen. This means that in global trade terms the purchasing power of the yen goes down, as I have already analyzed in the posts linked to above. Basically the higher the exchange rate, the less people with savings in Japanese yen can get for their money internationally. Yes, unfortunately that situation affects the writer of this blog, and my concern for the future of my yen savings is another reason that I am writing this series...
In my last post I gave the prognosis that the USD/JPY exchange rate is unlikely to break above 140 for the time being and will be rangebound between 130 and 140, maybe even go as low as 125. Not much time has passed since then, only a little more than a week, and so far trading in August has indeed been rangebound. The exchange rate started the month at 135, then quickly went down towards 130, but that level held - we call that support holding in FX terms, which is when buyers' orders could not be cleared by sellers at a certain level. Then we had a return to 135, and even broke above the level in the last few days - you might recall that is called resistance breaking, when buyers overrun a certain level of sell orders.
Actually, we can not really say that the buyers overran the sell orders at 135, as we are still stuck around the number and unable to decisively break above much higher. As I am typing this, the exchange rate is right at 134.99, and rangebound in a less than 100 pips range from 134.50 to 135.50 over last 3 days. It is a snooze fest at this level indeed, with neither buyers no sellers showing enough conviction to take us in either direction. However, we can expect a breakthrough with the help of news factors. So what is the most important news factor affecting the Japanese exchange rate at the moment?
As discussed in my previous posts, the main reason for the yen weakening against the dollar is the increasing of interest rate differentials. The US federal bank has been raising interest rates while the Bank of Japan has been firm in its resolution not to increase interest rates. The main reason for the US raising interest rates is growing inflation, which federal bankers usually fight by raising interest rates. On the other hand, the Japanese government actually wants inflation, hoping that will kick start spending domestically and somehow lead to a virtuous cycle resulting in economic growth. Therefore, the Bank of Japan has been reiterating its commitment to zero interest rates for the time being, saying that it needs to see inflation consistently above 2% in order to consider raising interest rates. So as a result, we have around 0% yield for Japanese government bonds, while US 10 year government bonds yield close to 3%. That makes the interest rate differential 3% in the advantage of the USD, so naturally investors would prefer to buy US bonds over Japanese bonds, as they can get higher interest payments for those. Furthermore, if the market thinks that the interest rate differential will be sustained or even increased, we can expect the USD/JPY interest rate to break higher and challenge 140 once again.
Actually today, August 10, 2022 is the date of the announcement of US CPI number for July. CPI is the most popular measure of inflation. The CPI number for June came in at a 40 year high of 9.1%, and any similar number would increase speculation for higher increases in US interest rates and motivate the USD/JPY bulls to push the USD higher and the JPY lower. You can read more about the US CPI announcement expectations here.
Since we are right before the big news event, which may move markets in either direction, or actually not result in a move in case of a non-conclusive CPI number, I will stop my analysis at this point. I will analyze again following the news, but apart from news, I want to also remind you of my contrarian strategy for trading markets. I have previously said that the yen will go up only when everyone expects it to go down and vice versa - it will go up when the majority of market players expect it to go down. Well, I just read a Bloomberg article with the title: "Yen Shorts Crumble as 2022’s Hottest FX Trade Comes to an End." Hmm, so it looks like the market consensus is shifting. Just last month almost everyone expected the yen to weaken, which lead to a contrarian strengthening of the yen. Now they seem to be expecting the yen to strengthen down to 130 or even lower. Can you guess what the contrarian move would be in this situation?
You guessed right, being a contrarian, I am now expecting the yen to actually weaken leading another attack on 140. Will the yen shorts be able to break through 140? I cannot answer that question, but I can assure you that those economists and specialists at Daiwa Securities, Rabobank, Goldman Sachs and National Australia Bank, cited in the Bloomberg article, might be challenged for their views in the coming weeks. Do not forget, the market is an unfriendly creature and it likes to humiliate specialists and invalidate as many of their predictions as possible as quickly as possible. To be continued...