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James Hyerczyk

The Dollar/Yen is trading higher on Friday after piercing its August 1 top at 109.317 the previous session on its way to a test of its highest level since May 31. The price action in the Forex pair is mimicking the movement in the benchmark U.S. 10-year Treasury yield, which posted a similar move on Thursday.

The USD/JPY is trading 109.352, up 0.076 or +0.07%.

There are multiple ways to look at the Dollar/Yen. One can following the Forex pair using U.S. Treasury yields as their guide, or they can follow the news and try to relate it to “risk-on” and “risk-off” scenarios.

Relationship with U.S. Treasury Yields

Simply stated, the rise in U.S. Treasury yields is helping to widen the spread between U.S. Government bond yields and Japanese Government bond yields. While the Fed was cutting interest rates three times between July 31 and October 30, the Bank of Japan was holding its benchmark rate steady. This made the U.S. Dollar a less-attractive investment.

The USD/JPY broke from 109.317 on August 1 to 104.463 on August 26. Since bottoming, the Forex pair is been slowly recovering from the break before finally taking out the August 1 top on Thursday.

December 10-year Treasury Yield futures topped on September 3 and are now in a position to challenge its August 1 level.

On Thursday, the 10-year yield rose as high as 1.97% in its biggest one-day move since the 2016 presidential election, but it was at 1.928% at the end of the day. The next high watermark to watch on the 10-year would be 2.06%, the high on August 1.


U.S.-China Trade Relations and Fed Policy Impact

On August 1, President Trump tweeted he could put new tariffs on China, a negative event for markets. It was also the day after the Fed cut interest rates by a quarter point, its first of three cuts. Furthermore, the yield curve also inverted, which was a signal in the financial markets that a recession could be on the horizon. That sentiment peaked in late August and September.

Since then, U.S.-China trade relations have significantly improved, the Fed has signaled it would pause its “mini-cycle” of rate cuts and the yield curve is no longer inverted, reducing fears of a recession.

Daily Forecast

The rally in the USD/JPY could continue above 109.317 with the next potential upside targets coming in at 109.930 and 110.677. However, in order to continue to expand to the upside, yields are going to have to continue to rise especially above the August 1 high of 2.06%. Fundamentally, improving conditions between the U.S. and China will help matters as well as a strengthening economy and increasing demand for risky assets.

Uncertainty between the two economic powerhouses and renewed tensions could lead to increased demand for safe-haven protection. This will kill the rise in yields and the rally in the USD/JPY.

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