USD/JPY: Bulls in control again, correction of recent pressures in play

• USD/JPY bulls in the driver's seat, greenback fundas are strong.
• Yen remains a favoured safe-haven play, despite Japan's recession.
• Gold echoes USD/JPY risk-off price behaviour. 

USD/JPY is currently trading at 107.78 between a range of 107.26 and 108.08, losing steam as the US dollar continues to bleed out, despite a major offer in the yen. It has been a mixed and disjointed start to the week as markets mull the various conflicting themes and sentiment in global financial markets.

A double-edged sword 

It has been a turbulent beginning in the world of FX with arguments for and against US dollar strength. On one hand, we expect to see plenty more monetary easing; fiscal easing and more de facto monetization and hence more downwards pressure on FX in the race to the bottom. This should be dollar supportive, no matter that all central banks are devaluing their currencies.

On the other hand, we are seeing governments attempt to kick start their domestic economies again and that should help to squeeze out some of the safe-haven demand for US dollars. However, the risks are overwhelming and there is no replacement for the dollar in many respects which will make it hard to justify a prolonged unwind in the near future, at least. 

Geopolitics, while harder to predict than macro analysis, is a key driver due to the uncertainty which is priced into financial and commodity markets and there is plenty of it to consider. Trade wars are coming back to the fore which should continue to underpin the greenback. Since the start of the trade wars between the US and China, the DXY travelled from the 88 handle to a high of 103.82, or some 18%. In the GFC we saw the dollar rise a massive 27%.

As the markets panicked this year, we have seen a 9% rise. So what if we have not seen the worst of this crisis? What is there is a second round of lockdowns in the US or Europe, for we are already seeing that in China where the initial outbreak lead to the initial lockdown? What if, as we have seen in each and every prior financial market's crash in history, that the prior routs in the benchmark indexes and subsequent short-term correction to a 61.8% Fibonacci retracements are just the preludes to the subsequent major sell-offs?

It should be noted, that even with the coordinated efforts of the central banks trying to free up more US dollar swap lines and unprecedented money printing of USD, the greenback has still managed to stay firm. 

Yen's appeal is nothing about the macro 

Meanwhile, Japan is officially in recession, with GDP in Q1 sinking -3.4% annualised vs. -7.3% in Q4, with an even uglier outlook for Q2, 108 caps. This raises the speculation that the yen should weaken off.

A key driver of the prior major JPY weakness back in Feb, was likely related to the mounting speculation around Japanese investment funds re-allocating their positions towards foreign securities as the end of the Japanese financial year (March) approached. However, as recession fears rose, so did USD/JPY with a significant rally of some 10.5%. Yet, on the fact, the pair merely moved within a 100 pip range. 

At this moment in time, we have the Japanese government talking about 20% of GDP fiscal stimulus package while both BOJ JGB (and ETF) guzzling and yield curve controls are in place. You expect then a far weaker yen. However, there is still the argument for a bid in the yen due to the risk-off Yen function; and that is because it runs current-account surpluses.

Risk-off rules the waves

While we are seeing some optimism in markets, there is a clear underbelly of risk-off still at the helm – you only have to look at gold's performance over these last weeks of May to know its there. We can expect to see both gold and the dollar continue in their bizarre positive correlations for some time to come and the yen to pick up the scraps. Technically, Gold is bullish:

• Gold Price Analysis: Symmetrical triangle breakout targets $1805 in the coming weeks

USD/JPY levels