USD/JPY Fundamental Forecast – March 16, 2017

The USD/JPY had very little follow-through to the downside early Thursday, suggesting the previous day’s sell-off may have been an overreaction to the news. Technical factors may also be helping to support the market based on the reaction to a pair of overlapping retracement zones at 113.590 to 113.139 and 113.267 to 112.869.

The interest rate differential between U.S. Treasury Bonds and Japanese Government Bonds also tightened on Wednesday, helping to pressure the dollar against the Japanese Yen. The yield on the benchmark 10-year Treasury Notes was lower at around 2.509 percent, while the yield on the 30-year Treasury Bond was also lower at 3.108 percent. The yield on the 2-year note was lower at 1.312 percent.

Treasury yields fell and the spreads tightened because the Fed came across as less hawkish in its stance on further interest rate hikes this year.

On Wednesday, the central bank raised its benchmark interest rate for the second time in three months. This move was widely expected due to the steady economic growth, solid job gains and confidence that inflation is moving steadily towards the Fed’s 2.0% target.

However, the Fed said in its policy statement that further hikes would only be “gradual,” with officials posting little change to their outlook from December 2016, calling for two more rate hikes this year and three more in 2018.

In other news, the Bank of Japan kept monetary policy on hold and offered no hint of future rate hikes as it battles to reach an inflation objective of 2 percent.

The BoJ said short-term interest rates will stay at minus 0.1 percent, 10-year bond yields will be capped near zero and asset purchases will remain at about 80 trillion Yen a year as the BoJ pursues one of the world’s most aggressive monetary policies.

Japan’s economy has continued its moderate recovery trend,” the BoJ’s policy board said in a statement, but “inflation expectations have remained in a weakening phase”.

The central bank also said Japan’s economy was likely “to turn to a moderate expansion” driven by consumption, fiscal stimulus and a pick-up in exports.

In U.S. economic news on Wednesday, the consumer price index rose 0.1 percent in February for a 2.7 percent increase over the last 12 months, the biggest year-on-year gain since March 2012. Ex-food and energy costs, the so-called core CPI rose 2.2 percent in the 12 months through February.

Retail sales posted a 0.1 percent rise last month, the weakest read since August. Core retail sales rose 0.1 percent after an upwardly revised 0.8 percent jump in January.

Both reports came in as forecast by analysts

The Empire State Manufacturing Index edged lower to 16.4 for March. The new orders index climbed eight points to 21.3, its highest level since 2009, according to the New York Fed. Additionally, the home builders sentiment hit 71 in March, its highest in 12 years. Business inventories rose 0.3 percent in January.

On Thursday, investors will get the opportunity to react to the latest data on Building Permits, Philly Fed Manufacturing, Housing Starts and the JOLTS Job Openings report. Weekly unemployment claims are expected to come in at 245K, slightly higher than last week’s 243K read.

If we can get a technical bounce in U.S. Treasury yields today, we could see a rebound in the USD/JPY. Otherwise, we’re likely to remain rangebound over the near-term until traders get fresh economic data. I think yesterday’s movement was a position adjustment rather than the start of a downtrend.