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Japanese Yen Surges but We’re Looking for Major Reversal

By , Quantitative Strategist
09 August 2013 21:44 GMT
Japanese_Yen_Surges_but_Were_Looking_for_Major_Reversal_body_Picture_1.png, Japanese Yen Surges but We’re Looking for Major Reversal

Japanese Yen Surges but We’re Looking for Major Reversal

Fundamental Forecast for Japanese Yen: Neutral

The Japanese Yen surged against the US Dollar, matching its best weekly performance since its June high (USDJPY low) on an otherwise quiet week for forex markets. The Yen strengthened despite any major fundamental drivers, but it will be critical to watch how the Japanese currency reacts to the coming week’s economic growth data.

We await the key Q2 Japanese GDP Growth report, which will likely force sharp Japanese Yen moves on any surprises. Investors look to GDP figures a de facto scorecard for the effectiveness of the Bank of Japan’s hyper-aggressive Quantitative Easing measures and so-called Abenomics.

A disappointment in GDP figures would suggest the BoJ’s QE measures have been insufficient to boost economic growth and in turn fuel speculation of renewed easing measures—sending the Yen lower. The opposite also seems likely on a positive surprise: better growth could push the JPY to fresh multi-month highs. If speculation over the BoJ’s next moves is so critical to Yen forecasts, why did relative inaction last week push the domestic currency higher?

The Bank of Japan gave traders little reason to sell the Yen, and indeed it seems as though most did the opposite. Recent CFTCCommitment of Traders data showed speculative futures traders remained very heavily short the Japanese Yen (long USDJPY) into the announcement; inaction from the BoJ encouraged traders to cover those positions and sent the USDJPY lower.

It’s likewise worth noting that the Japanese Yen rally occurred on similarly significant Australian Dollar strength—unusual as the two will often head in opposite directions. What do they suddenly have in common? Both the Australian Dollar and Japanese Yen remained heavily oversold, and their outperformance serves as further evidence that shifts in positioning drove the biggest moves in forex markets.

Does that make a difference for our Japanese Yen forecasts?

If recent Yen strength is indeed a function of traders closing positions, it gives us reason to believe that the JPY downtrend (USDJPY uptrend) remains intact. The next question is obvious: when can we buy? The ¥95 level looks of particular interest, and indeed our Senior Technical Strategist believes the USDJPY may set an important low next week.

We’ll be watching Dollar and Yen price action as the Dow Jones FXCM Dollar Index (ticker: USDOLLAR) has matched its longest daily losing streak since January, 2011. That fact in itself doesn’t tell us much; currencies can remain in overbought/oversold territory for extended periods of time.

Yet we believe that the Greenback could be at a similarly significant turning point, and the jump in Japanese economic event risk in the days ahead leaves the USDJPY at particular risk of volatility.

A sharp drop in forex market volatility prices suggests it could very well be a quiet week for the Yen and other currency pairs. We don’t make a habit of second-guessing market volatility expectations, but the combination of important Japanese economic event risk and signs of sentiment extremes suggests we might see outsized moves ahead.

Does that mean the USDJPY resumes its uptrend? We’ll know soon enough and look to trade accordingly. – DR

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09 August 2013 21:44 GMT