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James Hyerczyk
USD/JPY

The Dollar/Yen closed sharply higher on Friday, reaching its highest level since August 28. The Forex pair was lifted by an increase in U.S. bond yields, which triggered a huge drop in demand for higher risk assets, increasing the greenback’s appeal as a safe-haven currency.

Both the dollar and Yen are considered safe-haven currencies, but the Yen tends to decline when U.S. yields rise, the dollar tends to strengthen.

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Government bonds, and particularly U.S. Treasuries, have become the focal point of markets globally since Federal Reserve Chair Jerome Powell’s testimony before two U.S. Congressional committees on Tuesday and Wednesday, failed to dampen investors’ opinion about the economy heating up and inflation rising.

Essentially, it was the widening spread between U.S. Government bond yields and Japanese Government bond yields that made the U.S. Dollar a more attractive investment.

On Friday, the USD/JPY settled at 106.549, up 0.306 or +0.29%.

With traders moving to aggressively price in earlier monetary tightening than the Federal Reserve and other central banks have signaled, and central bankers pushing against the notion of earlier-than-expected policy reversal, USD/JPY traders have to brace for continued volatility over the near-term until both sides get on the same page. This heightened volatility could further pressure global equity prices, which would make the U.S. Dollar the more favored currency.

Short-Term Outlook

With the Fed unlikely to be spooked into changing policy without notice, all eyes will be on how the Bank of Japan reacts to rising domestic yields. The Reserve Bank of Australia (RBA) was forced to intervene on Friday to act as a breakwater against rising yields. Traders want to know how the BOJ feels about rising domestic yields.

The BOJ didn’t act on Friday, but Finance Minister Taro Aso fired a warning shot as the benchmark yield surged to within a couple of basis points of the perceived limit of the central bank. “It’s important that yields don’t suddenly jump up and down,” said Mr. Aso in Tokyo. “We need to make sure not to lose the market’s trust with fiscal management.”

Governor Haruhiko Kuroda later said the BOJ won’t change its yield target, and wants to keep the nation’s yield curve low.

For a look at all of today’s economic events, check out our economic calendar.

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