In today’s trading session we saw the USD broadly weaker – on the back of a continuation of the risk rally we’ve seen since the the beginning of October. However, the dollar was stronger against Japanese yen. In fact the JPY was was much weaker against all of its major rivals as investors and traders piled into the risk appetite trade and therefore are unloading yen longs – a play during times of risk aversion.
The risk rally is being fueled by:
- The market’s positive reaction to talk of a coordinated bank recapitalization plan.
- The Euro-zone countries have almost ratified the EFSF changes from July 21st (just need Slovakia now).
- The positive September non-farm payroll report showed the US economy “walking back from the ledge” injecting some optimism, or better making markets less gloomy, about global growth prospects.
- Had positive industrial production data from Europe and strong machine tool orders from Japan helping show further signs of life in 2 major economies.
- As a result we are seeing stocks surging, and bond yields are climbing as a result of investors shifting from bonds to riskier assets like stocks.
This move higher in yields, while signifying US investors may be moving from safety to more riskier asset classes – from bonds to stocks – the higher yield does make Treasuries more attractive to foreign investors, especially those in large Japanese financial institutions that like the safety of US Treasuries.
US 10-Year Yield, September 11th – October 11th:
Here’s a look at the 10-year US yield which has moved from a low of 1.76% to 2.2%% in the span of 2 weeks, as equities have rallied impressively over the last 6 trading sessions. Higher yields is the opposite effect desired by the Fed from “Operation Twist” as they want to lower 10-year yields further. Its still early in this most recent bond buying program, and right now this strong move towards riskier assets and away from bonds is bringing yields higher.
Here’s today’s action in the 10-year yield, where the yield was up 2.27%, trading around the 2.2% yield in the NY morning.
USD/JPY Responds Favorably with Moves in US 2-Year Yield:
Similarly to the 10-year, the 2-year yield in the US has also seen a bounce, moving to 0.3%, its highest level since early August. The 2-year was near 0.7% in mid-April before it slid among concern about the pace of the US recovery and worries over sovereign debt issues in Europe.
In any case, as we shall see, this has had a strong bearing on what happens with the USD/JPY.
- First we have yields falling in a clear downtrend, with a declining trendline that held until late June.
- In late June-early July we have a spike in the 2-year, before it quickly falls again, and then a second time in late July we have another spike above 0.4% which fails.
- Sharp downswing in early August, coinciding with the downgrade in the US, worsening data, and European woes, we see yields hit 0.2% and then consolidate around that level.
- The last 3 weeks have seen yields picking up again to 0.3%. This 0.3% level is about the halfway look point between the spike in late July and the lows we saw in September.
- In late April and early May, USD/JPY slid below 80.00, before rebounding and consolidating.
- The first peak in the 2-year yield in early July coincided with a top in a failed counter-trend move in the USD/JPY. The second peak in the 2-year came even as the USD/JPy was breaking new lows near 77.50.
- Following the BOJ Intervention in currency markets, the USD/JPY has mainly moved sideways through the second half of August and September as US yields have hovered near 0.2%.
- With the recent jump in yields we see a strong daily candle appearing in the USD/JPY that is testing the 55-ema in the daily timeframe.
The two year yield is important to the Japanese yen, as it’s this shorter maturity Treasury which is the type of investments that Japanese financial institutions like to make. If yields continue to move higher – towards 0.4% and above – that will be an important fundamental shift that would favor the US dollar against the Japanese yen.
This recent rise in yields coincides with the beginning of Operation Twist. In the plan the Fed is selling shorter-term debt, like 2-year, and buying longer-term debt, therefore that selling pressure should push up yields on this shorter end of the yield curve.
If economic data improves following this tumultuous summer yields in the developed world can begin to rise from their low levels. The higher yields go, the better higher-yielding currencies will be against the Yen, but so too the US Dollar. The pullback into the safety of the Japanese yen in recent months may unravel somewhat over the next few weeks if this recent short-term trend in the 2-year yield continues.
Therefore I will be monitoring the response to today’s action in the USD/JPY and other Yen crosses while keeping my eye on the 2-year yield (which you can find here: http://www.bloomberg.com/apps/quote?ticker=USGG2YR:IND). If there is follow through in both markets, then I will see if its time to go into a bullish stance on the USD/JPY.
For some possible target levels if we do have a move higher in the USD/JPY, see today’s Technical Update: USD/JPY Expands Volatility Above Triangle; 77.70-77.85 is Key Resistance Zone Before 79.20
– Nick Nasad is the Chief Market Analyst at FXTimes – provider of Forex News, Analysis, Education, Videos, Charts, and other trading resources.