USD/JPY Forecast: Beware of Overbought Levels

Prior to announcing the reading of the US economic growth rate and the number of weekly jobless claims, the price of the USD/JPY currency pair is still in a strong bullish path that will culminate in breaching the psychological resistance at 140.00. 

• Investors’ continued abandonment of the Japanese yen in light of the continued easing policy of the Japanese Central Bank and the lack of benefit from the markets.
• Investors’ concern about the fate of the US debt ceiling allowed the bulls to launch the USD/JPY currency pair towards stronger resistance levels, reaching the 139.47 resistance level, the closest test.
• The psychological resistance is at 140.00, which was often mentioned as the closest to the current bullish trend.

In general, a sense of caution prevailed in the air, with stocks falling yesterday and the US dollar finding some demand through the safe-haven channel. Conviction among traders appears to be low as many risks continue to cloud the outlook, while some classic correlations between asset classes have collapsed this month. And expectations for the Fed’s rate path have shifted radically, higher versus longer. Market rates are currently pricing in around a 50% probability for the Fed to raise interest rates by July, while the interest rate cuts that have been taking place for the rest of the year have been mostly discarded after a string of encouraging statements.

The recalibration of the course of interest rates was clearly reflected in the US and US dollar returns, which were rising in the past two weeks. However, stock markets turned a blind eye, as the Nasdaq index, which features high-tech stocks, rose in unison with returns. This is odd since higher returns are theoretically bad news for riskier players like stocks.

Overall it appears that the stock markets are no longer trading with the Fed, although the dollar and interest rate-sensitive assets such as gold are still tuning in. With the dollar on the verge of a comeback, encouraged by a rethink of the Fed’s rate path and some upbeat business polls yesterday, investors were moved by the release of the latest FOMC meeting minutes.

The key question is whether further tightening is on the table, which Fed members currently seem divided on. On the political front, debt ceiling negotiations appear to have stalled recently and tensions are rising over the US defaulting on its debt. Admittedly, this may not be the real risk for the markets. And catastrophic default does not suit either party, so eventually, a compromise will be reached even if the government shuts down. And this showdown is a political game, and investors are well aware.

Instead, the real danger is what happens after a deal is struck. This is when the Treasury will seek to raise its liquidity levels, by sharply boosting borrowing and flooding the markets with newly issued bonds. This process can amplify the effects of quantitative tightening, draining liquidity from the financial system and effectively “sucking oxygen”. The bottom line is that when a debt ceiling agreement is eventually reached, it could be a “selling the news” event due to its negative effects on liquidity flows, leaving riskier assets such as stocks and cryptocurrencies vulnerable this summer.

Prior to announcing the reading of the US economic growth rate and the number of weekly jobless claims, the price of the USD/JPY currency pair is still in a strong bullish path that will culminate in breaching the psychological resistance at 140.00. If this happens, the technical indicators will move towards strong overbought levels, and it can be expected to Profit-taking sales at any time. According to the performance on the daily chart below, there will be a break of the current trend, by moving the currency pair towards the support levels at 137.92 and 136.00, respectively.

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