USD/JPY hits 110: will the rally pause for breath now?

Overnight, the USD/JPY pair finally entered the key 110.00-110.65 technical area (see monthly chart in figure 1). The lower end of this range, i.e. 110, is a key psychological barrier while the 110.65 level was the high achieved back in August 2008. Around these levels one would expect to see some profit-taking, which in face may be part of the reasons why it has come under some downward pressure today. At this stage, it is difficult to say how deep price may retrace if we do see some actual selling activity now. But with the economic fundamentals stacked against the bears, one would expect the potential losses to be limited. Indeed, in the medium-term the USD/JPY should, in theory anyway, rise further as the Fed normalises the US monetary policy while the BoJ maintains its ultra-loose stance. In the very short-term, should the NFP trounce expectations on Friday then we may see a continuation of the dollar rally anyway, especially on the USD/JPY pair which has already broken a major bearish trend line. Still, a degree of caution is probably wise around these elevated levels and at such an important time of the month.

One potential worrying sign for the bulls may be the way the market reacted when the latest ADP report was released this afternoon. Although it showed that a good 213,000 jobs were created in the non-farm private sector of the economy last month, which was a touch better than expected, the USD/JPY fell. The currency pair then extended its losses after the release of the ISM survey, which was weaker than expected. In other words, the USD/JPY dropped on both good and bad economic data, a reaction which suggests this is a tired trend and that regardless of the outcome of the nonfarm payrolls report, prices may struggle to go much higher without a notable correction first. But it is too early to draw any conclusions, though Friday’s price action should provide us a good idea in terms of which direction the USD/JPY is headed in the short term.

Meanwhile a quick look at the 4-hour chart of the USD/JPY (figure 2) shows that the trend is still defiantly bullish, with price making higher highs and higher lows. The short-term bullish trends are still intact and no major support level is broken yet. So, for now at least, the path of least resistance continues to be to the upside. But should some of the support levels start breaking down soon then we may see the move accelerate to the downside as more and more traders are forced/encouraged to liquidate their long positions. Some of the immediate support levels to watch include 109.30 and 108.25, levels that were formerly support and/or resistance. Meanwhile the next major bullish target is the 78.6% Fibonacci retracement level of the downswing from the 2007 peak, at 113.70/5. But as mentioned, price action is beginning to look a little weak and so this may be a longer term target.