USD/JPY Fundamental Weekly Forecast – U.S. Treasury Yields, Risk Sentiment Controlling Price Action

The Dollar/Yen closed higher for the week after posting a volatile two-sided trade. The wild price action was driven at times by safe haven buying and selling, two-sided swings in U.S. Treasury yields and multiple changes in investor sentiment.

The USD/JPY finished the week at 110.236, up 0.913 or 0.84%.

The Forex pair lost ground early last week when Korea launched its missile over Japan, but a recovery in U.S. Treasury yields helped give it a boost. A strong stock market rally helped boost investor sentiment which drove the Japanese Yen lower because of the carry trade. Even though the U.S. jobs report was disappointing, it did not eliminate the chances of a Fed rate hike. This also helped underpin the Dollar/Yen.

Last week’s price action demonstrated just how sensitive the USD/JPY is to outside events and the U.S. economy.

The dollar was already in a weak position at the start of the week because on the previous Friday, U.S. Federal Reserve Chair Janet Yellen failed to mention monetary policy at her closely watched Jackson Hole meeting in Wyoming. Investors interpreted this to mean that Yellen was comfortable with the Fed’s rate hike expectations. Currently, the market has priced in only one by the end of next year.

The Greenback was also pressured by flight-to-safety buying after North Korea launched a ballistic missile over Japan’s northerly island of Hokkaido. However, the dollar index mounted a strong recovery after U.S. 10-year Treasury yields pulled up from a 9-month low.

The dollar was further supported at mid-week after strong U.S. economic data bolstered expectations for a solid U.S. jobs report later this week. The greenback gained after the U.S. Commerce Department revised up gross domestic product to a 3.0 percent annual rate in the second quarter, the quickest in more than two years.

On Thursday, the dollar slipped from its high for the week after unimpressive U.S. economic data failed to boost expectations for another rate increase later this year. According to the Commerce Department, consumer spending came in below expectations and the personal consumption expenditures (PCE) price index excluding food and energy or “core PCE” price index increased 1.4 percent, the smallest gain since December 2015.

Finally, on Friday, the U.S. released a disappointing Non-Farm Payrolls report that weighed on the chances of a Fed rate hike. The Non-Farm Employment Change was 156K versus an estimate of 180K. The previous month was also revised lower to 189K. The unemployment rate rose to 4.4%, up from 4.3% and Average Hourly Earnings rose only 0.1% versus a 0.2% estimate.

Forecast

Monday is a U.S. bank holiday so volume is expected to be on the light side. However, this leaves the USD/JPY wide open to extreme volatility if the news that North Korea tested a nuclear weapon becomes an issue. If this news rattles global investors then look for a repeat of last week’s performance. This means money will flow into the safe haven Japanese Yen.

There are no major reports from Japan this week. In the U.S., the ISM Non-Manufacturing PMI will be released on Wednesday, September 6.

The best trading approach this week is the simplest one: follow the U.S. Treasury yields. If U.S. Treasury yields rise then the USD/JPY will strengthen. If U.S. Treasury yields fall then the USD/JPY will weaken.

Investors should also pay attention to demand for higher risk assets, i.e. U.S. stocks. If investors continue to drive stocks higher, then this should also underpin the Dollar/Yen. A sharp sell-off will send investors into the safety of the Japanese Yen.