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US Dollar - Japanese Yen Technical and Fundamental Forecast for June

US Dollar - Japanese Yen Technical and Fundamental Forecast for June

2011-06-07 18:59:00
David Rodriguez, Ilya Spivak, Jamie Saettele, CMT,
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US Dollar / Japanese Yen Technical Forecast

Weekly Chart

US_Dollar_Japanese_Yen_Technical_and_Fundamental_Forecast_for_june_body_usdjpy.png, US Dollar - Japanese Yen Technical and Fundamental Forecast for June

Prepared by Jamie Saettele

The incredible panic decline into the March low just has that look of a major low. The sharp rally from the March low is impulsive (5 waves), indicating that the larger trend has turned up. The decline since has taken about 3 times as long but there is no indication that a low is in place yet. One more downside probe cannot be ruled out – 7854 would be support. 10 year US yields are plotted below the USDJPY. The sharp advance in yields from the October low and subsequent choppy decline is constructive, which should prove supportive for the USDJPY.

US Dollar / Japanese Yen Interest Rate Forecast

Currency, Central Bank

US Dollar, US Federal Reserve

Japanese Yen, Bank of Japan

Net USDJPY Spread

Signal

1-Year Expectations(Basis Points)

18

3

15

Bullish

Yield in 1 Year(Percent)

0.43

0.33

0.10

Bullish

US_Dollar_Japanese_Yen_Technical_and_Fundamental_Forecast_for_june_body_Picture_4.png, US Dollar - Japanese Yen Technical and Fundamental Forecast for June

The Japanese Yen remains highly sensitive to interest rate differentials against major currency counterparts, and a sharp deterioration in US yield forecasts has sunk the US Dollar/Japanese Yen pair through recent trading. Overnight Index Swaps now predict that the Fed will raise interest rates by a paltry 18 basis points in the coming 12 months—a sharp downgrade from previous calls for more aggressive policy tightening. Such downward revisions have likewise affected US Treasury Yields, which have fallen considerably.

Given that interest rates remain at or near record lows for both the US Dollar and Japanese Yen, it seems unlikely that shifts in Fed or Bank of Japan rate forecasts are likely to have a significant impact on the USDJPY.

Instead we will keep a close eye on US Treasury yields—particularly as the benchmark 10-year note yield is near important support just below the 3.00 percent mark.

US Dollar / Japanese Yen Valuation Forecast

USDJPY Valuation Forecast: Bullish

US_Dollar_Japanese_Yen_Technical_and_Fundamental_Forecast_for_june_body_06072011_JPY.png, US Dollar - Japanese Yen Technical and Fundamental Forecast for June

The Yen remains deeply overvalued against the US Dollar, albeit significantly less so than most of the greenback’s major counterparts at 13.2 percent above PPP-implied fair value. The centrality of relative bond yields for the USDJPY exchange rate suggests an erosion of the disparity is imminent as the expiration of QE2 opens the door for Treasury yields to rise unhindered by Fed interference, reflecting the gaping US budget deficit and the ample issuance of new debt that will be required to finance it. Meanwhile, the Bank of Japan remains in familiar dovish territory and is likely to remain so for the foreseeable future as the world’s third-largest economy rebuilds in the aftermath of the Tohoku earthquake. A breakdown in the S&P 500 to in response the implications of rising US borrowing costs on the pace of economic recovery may prove to be a short-term deterrent to the correction however, setting off broad-based risk aversion that brings an unwinding of carry trades financed in Yen. Still, the overall path of least resistance seems to strongly favor the upside.

What is Purchasing Power Parity?

One of the oldest and most basic fundamental approaches to determining the “fair” exchange rate of one currency to another relies on the concept of Purchasing Power Parity. This approach says that an identical product should cost the same from one country to another, with the only difference in the price tag accounted for by the exchange rate. For example, if a pencil costs €1 in Europe and $1.20 in the US, the “fair” EURUSD exchange rate should be 1.20. For our purposes, we will use the PPP values provided annually by Bloomberg. We compare these values to current market rates to determine how much each currency is under- or over-valued against the US Dollar.

Written by Jamie Saettele, CMT, Sr. Technical Strategist; David Rodriguez, Quantitative Strategist; and Ilya Spivak, Currency Strategist for DailyFX.com

We always want to hear your feedback on DailyFX articles. Want more content like this? Less? What do you want to see? Send e-mails to drodriguez@dailyfx.com, ispivak@dailyfx.comand jsaettele@dailyfx.com

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