USD/JPY Forecast: Defends 110.04, bullish mood intact

The USD/JPY may have crowded out weak hands (bulls) on Wednesday as it revisited the former resistance turned support level of 110.04 (double top + 61.8 percent Fibonacci retracement of the Jan-Mar drop) before closing at 110.39.

As of writing, the currency pair is trading at 110.35. Tuesday's convincing move above 110.04, signaled a bullish breakout/resumption of the rally from the March low of 104.63 and yesterday's rebound from 110.04 has only reinforced bullish expectations.

The bullish move could be associated with the hardening of the treasury yields. The US 10-year treasury yield took out resistance at 3.04 percent on Tuesday and is now trading at 3.10 percent - the highest level since 2011.

Yield spread set to rise in the USD-positive manner

Currently, the 10-year US-Japan bond yield spread stands at 304 basis points - the highest levels since 2007 and looks set to widen further due to the divergence between the Fed tightening and Bank of Japan (BOJ) QQE/yield curve control.

The Japanese economy contracted in the first quarter, snapping the eight-quarter expansion streak, the official data released yesterday showed. Capital expenditure fell 0.1 percent, down for the first time in six quarters, suggesting corporate investment is cooling. Further, the Cabinet Office reported a 3.9 percent drop in Japan's core machinery orders in March.

And last but not the least, Japanese inflation remains well below the BOJ's target of 2 percent. So, BOJ policy normalization looks like a distant dream.

Meanwhile, the end-2019 Fed Funds futures have blasted through 2.5% as the market begins pricing a higher terminal rate, according to a Reuters report. Hence, the 10-year bond yield spread will likely widen further in the USD-positive manner.

More importantly, the equity markets are showing no signs of stress despite rising Treasury yields and are widely expected to remain resilient as long as the 10-year yield stays below 4 percent. So, the odds are low that the Japanese Yen will find safe haven bids.

The Yen may pick up a bid only if North Korea and/or Iran issue escalate sharply.

Technicals - Eyes long-term descending trendline

Daily chart

The rising channel (higher highs and higher lows), ascending (bullish) 5-day moving average (MA) and 10-day MA  and a convincing break above the 200-day MA favor further upside in the USD/JPY pair.

The 5-week MA and the 10-week MA are also trending north in favor of the bulls.

Thus, the pair may attack resistance at 111.25 - trendline sloping downwards from August 2015 high and December 2015 high.

A close below the 10-day MA would abort the bullish view, while acceptance below 108.65 (May 4 low) would signal a bullish-to-bearish trend change.