USD/JPY: What's next for the beleaguered pair?

This week’s key central bank meetings have come to pass. The US Federal Reserve, the Reserve Bank of New Zealand and the Bank of Japan all decided to leave their monetary policy stances unchanged, so you would have thought that the markets would not have reacted much. Well, in the case of the Fed, you would have probably been correct since virtually no one was expecting a rate rise at this week’s meeting. The RBNZ’s decision to leave policy unchanged surprised a few people and the New Zealand dollar rallied sharply. But it was just a drop in the ocean compared to how much the yen rallied in the aftermath of the BOJ’s meeting. The latter was expected to ease its policy, especially after fresh data showed the Japanese economy fell into deflation. Not only did it refuse to do that but there wasn’t even the slightest signal of further easing. The markets have punished the BOJ by aggressively bidding up the yen.

It remains to be seen for how much longer the BOJ will be able and willing to tolerate this pain. But it may get a helping hand in the form of a stronger performance from the dollar, should the first quarter US GDP somehow beat expectations later on or next week’s employment figures surprise to the upside. In any event, the BOJ is ready to act if the situation deteriorates further, so watch out for that possibility.

From a technical point of view, the USD/JPY charts look unsurprisingly bearish and understandably “oversold” in the short. So we may see a small short-covering bounce before the selling resumes in the coming days or weeks. In fact, the weekly chart of the USD/JPY, below, shows an uncompleted bearish engulfing candle below 110, which could complete unless US data over the next day and a half massively overshoot expectations. The engulfing candle, if seen, would paint a bleak outlook for the start of next week.

But at the time of this writing, the USD/JPY was testing the key 107.70/108.00 area after falling a massive 400 pips from near 11.90, where it may have formed a short-term double top pattern as per the 4-hour chart in the inset – the neckline of this reversal formation being at the 107.70/108.00 range. So a small rebound here should not come as a massive surprise, especially since this area marks the low from the prior three weeks. But if this support area (eventually) breaks down decisively then the USD/JPY’s downward trend may accelerate towards the support zone shaded in light blue on the chart. This area is comprised of:

• 106.65: long-term (shallow) 38.2% Fibonacci retracement level

• 105.45: previous key resistance level, which could turn into support upon re-test

• 105.10: the (still-rising) 200-week moving average

• 105.00: a psychological level

As noted, there are a number of technical factors converging in the 105.00-106.65 area, so the USD/JPY could rebound or even form a long-term base should we get there. Conversely, if this key support range also gives way then a more significant correction could be on the way, perhaps towards 100 or even lower.

Meanwhile some of the short-term resistance levels are shown on the 4-hour chart in the inset. The most important of these resistance levels are at 109.25, 110.00 and 110.65. A potential break above the double top level of 111.90 would invalidate the near-term bearish bias, in which case a rally towards the next key reference point of 116.00 could then become a good possibility.