USD/JPY Fundamental Daily Forecast – Pressured by Falling Treasury Yields, Carry Trade Selling

The Dollar/Yen is trading sharply lower on Thursday as investors continue to respond to the Fed’s monetary policy statement and economic projections from Wednesday. Yesterday, the Fed reduced the number of expected rate hikes in 2019, however, the reduction was less than investors had expected. So basically, the Fed stepped back from a more aggressive policy tightening path, while giving the financial markets the impression of being much less cautious than investors had anticipated.

At 0856 GMT, the USD/JPY is trading 111.845, down 0.638 or -0.57%.

Also contributing to the weakness in the Dollar/Yen was another steep plunge in the U.S. stock market. This drove investors into the safe-haven Japanese Yen.

Going into the Fed’s decisions, Dollar/Yen traders were expecting the Fed to announce it would take a pause in its aggressive monetary policy in 2019. In other words, there would be no rate hikes. Additionally, traders expected the Fed to be a little more cautious due to rising uncertainty about global economic growth. However, investors were surprised by the Fed’s commitment to retain the core of its plan to tighten monetary policy.

There were some small tweaks in the monetary policy statement including lowered growth and inflation expectations. However, these subtle changes were not as significant as investors had hoped.

Additionally, in a press conference, Fed Chairman Jerome Powell suggested that the expected two interest rate hikes for 2019 weren’t set in stone. This likely means economic data will determine what the Fed eventually does next year.

“There would be circumstances in which it would be appropriate for us to go past neutral, and there would be circumstances in which it would be wholly inappropriate to do so,” Powell told reporters.

Forecast

USD/JPY traders are going to continue to be influenced by the direction of U.S. Treasury yields and the stock market volatility.

Look for the Dollar/Yen to continue to weaken if U.S. Treasury yields continue to drop. This move is going to affect the spread between U.S. Government bond yields and Japanese Government bond yields. The sell-off in the Forex pair reflects investors making adjustments to their bond market positions.

Stock market weakness is helping to boost the Japanese Yen because of the carry trade. When U.S. equities weaken, investors are forced out of their positions. They then have to sell the dollar and buy the Japanese Yen in order to pay back money they borrowed from Japanese banks.