USD/JPY Forecast: Risk Reversals & ATM Vols suggests selling to gather pace, eyes 111.65

The Dollar-Yen pair fell to 112.00 in Asia after the news of the Trump health care debacle triggered broad based selling in the US dollar. Investors ditched USD on fears that the much awaited tax reforms will be delayed or may not come through at all. This could also force the Fed to go slow with the rate hikes and balance sheet normalization or abandon policy normalization altogether. 

Another wave of selling in the USD/JPY could be seen at the London open. The weakness could be carried over through to the US session, especially if the European stock markets react negatively to the health care debacle.

USD/JPY & 1-month 25 delta risk reversal divergence has ended

The Dollar-Yen pair continued to rise even though the 25-delta risk reversals began falling in late June. The divergence was an advanced warning that the spot is nearing a top. As of now, both the 25 delta risk reversals and the USD/JPY pair are sloping downwards. The decline in the 25 delta risk reversals suggests puts are in demand. 

Also take note of the rise in the 1-month ATM option volatility. Techies can plot an inverse head and shoulders pattern on Vol chart (green line). 

The combination of the declining 25 delta risk reversal and a rise in the ATM volatility suggests the bearish momentum in the USD/JPY is set to gather pace. 

Technicals - Falling channel, downside break of the range

Resistance

  • 112.32 (38.2% Fib R of 108.80-114.49)
  • 112.75 (5-DMA)
  • 112.88 (4-hour 100-MA + falling channel resistance + head and shoulders neckline)
  • 113.21 (10-DMA)
  • 113.36 (4-hour 50-MA)

Support

  • 111.94 (100% Fib ext. of 114.49-112.86-113.58)
  • 111.70 (200-DMA) - 111.72 (4-hour 200-MA)
  • 111.65 (falling channel support + 50% Fib R of 108.80-111.49)
  • 111.14 (June 26 low)

4-hour chart

Observations

  • Falling channel
  • 50-MA has topped out
  • Daily chart - RSI has breached 50.00 levels to the downside

Commentary

  • Intraday upticks are likely to be met with fresh offers. The spot looks set to test strong support around 111.70-111.65 levels. By then the 4-hour RSI may hit the oversold territory, thus leading to a sideways action before further sell-off happens. A convincing break below 111.65 would open doors for 110.93 (161.8% Fib ext. 114.49-112.86-113.58). 
  • On the higher side, only a 4-hour close above 112.88 (4-hour 50-MA) would signal bearish invalidation. 
     

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