USD/JPY Fundamental Daily Forecast – Treasury Dump Drives Investors into US Dollar

The Dollar/Yen is trading sharply higher late Tuesday following a spike to the upside by U.S. Treasury yields. The move widened the spread between U.S. Government bonds and Japanese Government bonds, making the U.S. Dollar a more attractive asset.

At 17:08 GMT, the USD/JPY is trading 106.425, up 0.461 or +0.44%.

Longer-term U.S. Treasury yields were higher Tuesday and a closely watched part of the yield curve steepened as traders moved into riskier asset classes on reassurance that a U.S.-China trade deal would continue.

Top U.S. and Chinese trade officials have reaffirmed their commitment to a Phase 1 trade deal, which has seen China lagging on its obligations to buy American goods, giving a boost to financial markets on Tuesday.

The benchmark 10-year yield was up 5.5 basis points at 0.7014% in morning trading, the first time it has traded above 0.7% since August 17.

A closely watched part of the U.S. Treasury yield curve measuring the gap between yields on 2- and 10-year Treasury notes, seen as an indicator of economic expectations, was 54 basis points, about 4 basis points higher than Monday’s close and well above its recent low of 33 basis points reached on July 24.

The 2-year U.S. Treasury yield, which typically moves in step with interest rate expectations, was up 1.3% basis points at 0.1656% in morning trading.

In other news, investors were awaiting the results of Treasury auctions due later on Tuesday, including the scheduled sale of $50 billion of 2-year notes.

In economic news, data on Tuesday showed home prices rose 4.3% annually in June, unchanged from the gain seen in May, according to the S&P CoreLogic Case-Shiller U.S. National Home Price NSA Index.

The Conference Board Consumer Confidence Index fell for a second straight month to 84.8 in August, down from 91.7 in July and missing a Dow Jones estimate of 92.5.

Short-Term Outlook

On Thursday, Fed Chairman Powell is expected to outline what could be the central bank’s most active efforts ever to spur inflation back to a healthy level. Traders are looking for Powell to introduce “Average Inflation” targeting. The terms means the Fed will allow inflation to run higher than normal for a period of time.

We’re seeing today how bond investors are likely to react to higher inflation. The sell-off in the Treasury market means Investors probably don’t want to hold paper that could potentially earn less than the inflation rate. This would push up interest rates. And when rates go up, the U.S. Dollar tends to outperform the Japanese Yen. So we may be seeing the early stages of a huge USD/JPY rally.

Supporting this conclusion is that the U.S. is going to try to drive inflation over the benchmark target of 2.0% and hold it there, while Japan is struggling with deflation. In my opinion, the advantage is to the U.S. Dollar.

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