USDJPY breaks out as US bond yields extend gains

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By :  ,  Financial Analyst

Just a couple of weeks ago, the dollar was languishing in the doldrums. This was in part due to that disappointing US jobs report which helped to lower expectations for aggressive rate hikes from the Fed and partly because of trade war concerns. Well, since then, the markets’ expectations over short-term rate rises have been on the rise again as geopolitical tensions abated and incoming data has been mostly positive. Investors now expect to see at least two and possibly three more rate increases before the year is out. This has been reflected in rising yields on the policy-sensitive 2-year Treasury, which is on the brink of touching 2.5%. The last time the two-year yield was this high was during the financial crisis back in 2008. This goes to show that Trump’s reflationary policies are clearly working, given that the yield on the two-year debt was around 0.86% when he was elected. Meanwhile the benchmark 10-year yields have also been on the rise, but at a slower pace. They find themselves at just shy of 3.0% again at the time of this writing. Consequently, the yield curve has flattened. In other words, investors’ required rate of return on lending to the government for the long term has fallen on a relative basis. This suggests that the market is probably thinking that the Fed will raise rates in the short term but then it will probably hold policy steady for a long period. It also implies investors might be concerned over the longer-term economic outlook.

But traders are short-sighted. They only care about short-term direction of prices. Given the rising short-term yields, the dollar has appreciated in recent days and now the Dollar Index is on the verge of a possible breakout. The dollar’s strength has helped to lift the USD/JPY above the key 107.30-108.05 area. This is a range which we had highlighted as resistance two weeks ago. Now that price is trading above this area, the next question is can it hold here? If so, then we could see further gains in the days to come. The next bullish objective is at 108.50, the last support pre breakdown on the daily time frame. This level also happens to converge with the 38.2% Fibonacci retracement against the most recent swing high. If we eventually go above this level then the next objectives could be 109.70, the 50% retracement level, followed by 110.25, which marks the 200-day average. The long-term resistance is at around the 111.00 handle – this corresponding with the bearish trend line which can be seen on the weekly chart. Meanwhile in terms of support, the broken resistance levels at 108.05, 107.85 and 107.30 are all going to be the new potential supports to watch. It is worth remembering though that technically this is a correction in what is a long-term downtrend. So, if you see signs of a reversal again, then treat that signal with respect, regardless of today’s apparent breakout.

Related tags: Dollar Forex

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