US Dollar Outlook:
- The US Dollar (via the DXY Index) has stabilized after dropping swiftly from its yearly highs.
- Higher US Treasury yields have helped USD/JPY rates ward off a potential topping pattern, with the pair extending to fresh multi-decade highs.
- The IG Client Sentiment Index suggests that USD/JPY has a bullish bias in the near-term.
Fed Hikes Odds Rise with US Treasury Yields
The US Dollar (via the DXY Index) has stabilized over the past week-plus following a swift drop from its yearly highs established in mid-May. The combination of rising Fed rate hike odds – 147-bps are now priced-in through the end of 2022 – and elevated US Treasury yields have proved to be strong enough tailwinds to help stem the greenback’s bleeding.
These developments have been positive news for USD/JPY rates, which as of a few weeks ago appear to be carving out a potential near-term top. Alas, unlike other currencies whose central banks are closing the rate expectations gap relative to the Federal Reserve, the Japanese Yen remains encumbered by a Bank of Japan that is committed to its QQE with yield curve control policy.
The broader DXY Index may stay range bound over the next few days even if Fed rate hike odds and US Treasury yields rise further, simply because of the loaded economic calendar at the end of the week may spook traders from taking too significant of a directional bias. Even so, that may be good news for USD/JPY rates, which have recently broken out to a fresh multi-decade high. USD/JPY rates are the ‘canary in the coal mine’ for the DXY Index; if the pair turns lower, it likely spells trouble ahead for the greenback gauge.
DXY PRICE INDEX TECHNICAL ANALYSIS: DailyTimeframe (June 2021 to June 2022) (CHART 1)
The DXY Index has been trading sideways for the better part of two weeks, between 101.30 and 102.65. Bearish momentum has stalled, with the gauge holding right at its daily 5-, 8-, 13-, and 21-EMA envelope, which is in neither bearish nor bullish sequential order. Daily MACD has warded off a drop below its signal line, while daily Slow Stochastics continue to rise towards their median line. A bullish bias would be more appropriate above 102.65, a bearish bias below 101.30, and neutral – rangebound – in between the two levels in the near-term.
USD/JPY RATE TECHNICAL ANALYSIS: DAILY TIMEFRAME (June 2021 to June 2022) (CHART 2)
USD/JPY rates were not carving out a head and shoulders pattern but instead a bullish falling wedge throughout the second half of May. Fresh multi-decade highs have emerged, and barring a turn lower by US Treasury yields (and thus Fed rate hike odds), there’s little reason to think that further advances will be stopped. The pair is above its daily EMA envelope, which is in bullish sequential order. Daily MACD is rising while above its signal line, and daily Slow Stochastics are nestled in overbought territory. A ‘buy the dip’ mentality is appropriate in the near-term.
IG Client Sentiment Index: USD/JPY RATE Forecast (June 7, 2022) (Chart 3)
USD/JPY: Retail trader data shows 27.06% of traders are net-long with the ratio of traders short to long at 2.69 to 1. The number of traders net-long is 0.71% higher than yesterday and 8.70% lower from last week, while the number of traders net-short is 2.28% higher than yesterday and 23.82% higher from last week.
We typically take a contrarian view to crowd sentiment, and the fact traders are net-short suggests USD/JPY prices may continue to rise.
Traders are further net-short than yesterday and last week, and the combination of current sentiment and recent changes gives us a stronger USD/JPY-bullish contrarian trading bias.
— Written by Christopher Vecchio, CFA, Senior Strategist