USD/JPY Forecast: ‘Reflation trade’ is overbought, correction likely

Omkar Godbole FXStreet Contributor

The reflation trade has pushed all three major US indices - Dow, Nasdaq, and S&P 500 to record highs, pushed the US dollar index to the highest since April 2003 and led to a sell-off in the bonds and safe haven assets like gold.

The Reflation trade is on ever since Donald Trump won the US Presidential Elections. Investors expect Trump to deliver on his pre election promises - cut corporation tax, ‘spend till end’, boost infrastructure spending, bring jobs back to America…

The base metals rallied as well on hopes the increased infrastructure spending in the US would boost demand.

‘Hope Trade’

The USD/JPY pair has rallied from 101.16 (Election Day low) to 111.36 (Nov 21 high).
Dow 30 index has rallied from 18,250 (Election Day low) to 19,043 (Nov 22 high).

In past, the reflation trade i.e. the drop in the Japanese Yen and the rise in the US stocks was the result of Bank of Japan’s aggressive monetary easing.

This time it is the ‘Trump Trade’ that is driving the Yen lower and the US stocks higher. Prospect of a cut in the corporation tax from 30% to 15% coupled with an increase in the infrastructure spending is too exciting for the stock market bulls.

However, the entire rally from the Election Day low is a ‘hope trade’. Donald Trump is yet to take office and there is every possibility that he may fall short of the market expectations. Furthermore, Trump has announced that he plans to scrap the TPP agreement on the first day in office. This is likely to heighten the fears of trade wars/protectionism.

USD/JPY is overbought

Daily chart - USD/JPY (Candles) & Dow (blue line)

The Dollar-Yen pair and the Dow index have moved hand in hand since the Election Day.
The daily MACD clearly shows the loss of the bullish momentum in the USD/JPY pair.
The daily RSI too is overbought and is on the verge of forming a bearish divergence with the price chart.

Dow Daily chart

The daily RSI is overbought and the MACD is showing the loss of bullish momentum.

To conclude - The overbought status of the Dow 30 index adds credence to the overbought conditions in the USD/JPY pair and suggests potential for a correction in the reflation trade. Consequently, it is safer to assume the Dollar-Yen pair is likely to witness a pull back to 1110.-109.00 levels in the short-term.

Author

Omkar Godbole

FXStreet Contributor

Omkar Godbole, editor and analyst, joined FXStreet after four years as a research analyst at several Indian brokerage companies.

AUD/USD consolidates above 0.7000/two-month low; bearish potential intact

The AUD/USD pair oscillates in a narrow range during the Asian session, and moves little following the release of mixed inflation figures from China. Spot prices currently trade around the 0.7025 region, nearly unchanged for the day, and remain within striking distance of a nearly two-month low set on Tuesday. Renewed hostilities between the US and Iran temper hopes for a deal to end the over three-month-old war.

Japanese Yen languishes despite wholesale inflation accelerates in May

USD/JPY flatlines after experiencing volatility, trading around 160.40 during the Asian hours on Wednesday. The pair continues to hold its ground, reflecting a struggling Japanese Yen that has failed to find support despite a massive acceleration in wholesale inflation. Driven by surging energy costs linked to the ongoing Middle East conflict, Japan’s Producer Price Index jumped 6.3% year-over-year in May. This hot printing comfortably outpaced April’s upwardly revised 5.3% figure and surpassed market consensus of 5.5%, marking the fastest pace of wholesale price growth in three years.

Gold plummets below $4,200 amid US‑Iran tensions ahead of US CPI

Gold extends the recent breakdown momentum below a technically significant 200-day Simple Moving Average (SMA) and drops to a fresh low since March 23, further below the $4,200 mark during the Asian session. Crude Oil prices rise amid renewed hostilities between the US and Iran, fueling inflation fears and bolstering bets for more hawkish central banks.

Bitcoin remains vulnerable, Ethereum weakens further, XRP signals more downside

Bitcoin, Ethereum, and Ripple remain under pressure mid-week, as the broader cryptocurrency market struggles to regain recovery momentum after last week’s massive correction. BTC struggles below $62,000, ETH continues to weaken below $1,650, while XRP’s momentum indicators remain biased toward further downside.

US CPI data set to show inflation at three-year high in May, backing Fed hawkish tilt

The US Bureau of Labor Statistics will publish the May Consumer Price Index (CPI) data on Wednesday. The report is expected to show another step up in consumer inflation, driven by the persistently high Oil prices due to the ongoing crisis in the Middle East.

The US economy defies the rules: 100 days into the Oil shock and the recession signal is still missing

More than three months after the start of the Iran war and the resulting disruption to global energy markets, the US economy continues to display remarkable resilience. The conflict has triggered a sharp rise in Oil prices, reignited inflationary pressures and fueled widespread concerns about a potential economic slowdown.