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USD/JPY and the Yen Crosses Likely to Lead FX Volatility

USD/JPY and the Yen Crosses Likely to Lead FX Volatility

John Kicklighter, Chief Strategist

Talking Points:

  • The Yen sits at the cross roads of the market's most influential themes including risk trends and mon pol divergence
  • Over the past 3 to 6 months, the focus for trading the yen has fallen on skepticism over the BoJ's effectiveness
  • Implied volatility for USD/JPY shows that the market expects action from the BoJ Friday with risk hovering overhead

See how retail traders are positioning in the USD/JPY and Yen crosses using the SSI readings on DailyFX's sentiment page.

USD/JPY and the other Yen crosses have offered FX traders some of the most remarkable opportunity in terms of trend and volatility amongst the majors through 2016. We will likely continue to the Japanese Yen generating among the most remarkable movement in the currency market moving forward as well. This week alone, the docket will add considerable fuel via the most productive fundamental engine for currency and pair (USD/JPY): monetary policy. The BoJ is scheduled to announce its policy bearings on Friday while the US-based Fed will decide on rates Wednesday.

Between the two central banks, the Bank of Japan's assessment of falling short of the 2.0 percent inflation objective carries the greatest potential impact. The FOMC's likely hold rates establishes the comparison to be made against desperately accommodative counterparts like the BoJ and ECB. The wider the gulf between the hawks and the doves, the more volatility will generally arise between them - if not trend. Perhaps the greater collective danger to market health though is the depths the extreme doves are willing to plunge. Recent efforts by the Japanese and European banks failed to motivated expectation reactions for their respective capital markets and currencies. Their objective may not be directly influencing the markets, but the resultant lack of confidence is deeply troubling.

A long-term loss of control over the Yen exchange rate and ability to hearten local investors certainly looms for Japanese policy officials. Near term, the threat is volatility. The past two weeks have seen a significant Yen cross rally and there is distinct connection to anticipation for more easing. Implied volatility offers further evidence to suggest this is a significant build up in speculation of a specific outcome. One week implied (expected) volatility hit seven-and-a-half year high Friday - specifically one full week before the central bank meeting. Will the BoJ heed the market's appetite? Will it avoid hasty action that results in a similar reaction to the January 29 move to negative rates? We discuss what is at stake for Yen trading short and medium-term in this Strategy Video.

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