USD/JPY Fundamental Daily Forecast – Edging Lower as Treasury Yield Dip Weakens US Dollar

The Dollar/Yen is edging lower on Monday after confirming Friday’s dramatic closing price reversal top. The move indicates a shift in momentum. The move was driven by a drop in U.S. Treasury yields, which tightened the spread between U.S. Government bonds and Japanese Government bonds, making the U.S. Dollar a less-attractive investment.

At 05:09 GMT, the USD/JPY is trading 131.819, down 0.281 or -0.21%. On Friday, the Invesco CurrencyShares Japanese Yen Trust ETF (FXY) settled at $70.64, up $0.67 or +0.96%.

Treasury Yields Fall after Economic Reports Signal Inflation May Be Cooling

Treasury yields are ticking lower early Monday after plunging the previous session as investors digested economic data and assessed its implication for the Federal Reserve’s hiking cycle.

Nonfarm payrolls increased by 223,000 for the month of December, above the Dow Jones estimate for 200,000, while the unemployment rate fell to 3.5%, 0.2 percentage points below the expectation.

Additionally, wage growth was less than expected in an indication that inflation pressures could be weakening. Average hourly earnings rose 0.3% for the month and increased 4.6% from a year ago. The respective estimates were for growth of 0.4% and 5%.

Bond yields fell further when Friday’s ISM’s non-manufacturing Purchasing Managers’ Index showed that production numbers fell, a sign that the Fed’s rate hikes may be working to slow the economy.

Short-Term Outlook

Tightness in the labor market is often closely associated with high inflation, which the Fed has been trying to cool.

Although there is nothing in the U.S. jobs report that implies anything other than a strong labor market and easing wages, traders have solidified the chances of a 25 basis point rate hike versus a 50 basis point rate hike at the Fed’s Jan. 31 – Feb. 1 policy meeting. This is what drove the USD/JPY sharply lower on Friday.

Fed fund futures now imply around a 25% chance of a half-point hike in February, down from around 50% a month ago.

Look for investors to be a little cautious ahead of the Fed Chair Jerome Powell’s speech at a central bank conference in Stockholm on Tuesday.

Friday’s data also heightens the importance of U.S. consumer price index (CPI) data on Thursday, which is forecast to show annual inflation slowing to a 15-month low of 6.5% and the core rate dipping to 5.7%.

We’re looking for a soft CPI report which will solidify the 25 basis point rate hike on Feb. 1. This could fuel further weakness in the USD/JPY.