The USD/JPY traded higher for a second week after reaching a low of 120.40 earlier in the month. However, the buying pressure subsided allowing sellers to take control, leading to a lower close for the week.
Although the interest rate differential overwhelmingly favors the U.S. Dollar over the Japanese Yen , this Forex pair is being primarily driven by the price action in the stock market. Last week, the NASDAQ-100 and the S&P 500 Index both posted potentially weekly closing price reversal tops. This is a strong sign that the selling pressure is greater than the buying pressure at current price levels.
Look for the USD/JPY to weaken this week if there is follow-through selling in the equity markets. If stock traders are able to right the ship then the Forex pair will continue its rise into at least 125.85 over the near-term. This level is not likely to be tested unless all major indices are trading at new contract highs, however, or if the Fed hikes interest rates. Because of the carry trade, where investors borrow in Yen, then convert to dollars to invest in the U.S. stock market, this Forex pair is going to continue to be extremely sensitive to the direction and of the stock indices.
Simply stated, a weaker stock market will contribute to a strong Yen. A strong stock market will put pressure on the Japanese currency.
In other news, the International Monetary Fund cautioned against excessive depreciation in Japanese Yen . It warned that the country’s incomplete fiscal and structural reforms could result in stagnation and doubts about fiscal sustainability. This means that the IMF sees downside risks to economic growth and consumer price . The solution to this may be another round of easing by the Bank of Japan.
Once again, we’ve come back to the interest rate differential discussion. Look for the interest rate differential to continue to support the USD/JPY , but the upward thrusts are likely to be triggered by stock market surges.