movement of usdjpy will set the tone for risk assets in the coming weeks 1823472016

In our last macro strategy article on 08 July 2016, we have highlighted that the USD/JPY (proxy for risk appetite) has declined towards its key long-term support at 100.70/99.00 and a bullish reversal is likely to occur to weaken the strength of the JPY which in turns will lead to rally (positive feedback loop) for risk assets such as equities. This preferred outcome has been materialised as the USD/JPY has rallied towards our target/resistance at 105.50 and the major benchmark stock indices have reversed to the upside from their respective post- Brexit lows with the leader, U.S. S&P 500 making a new all-time high.  Please click on this link for a recap.

All eyes will be on BOJ tomorrow to see what type of new monetary easing policies Governor Kuroda will enact. There are three main existing options for BOJ to expand on which are purchase of government bonds (quantitative easing), reduce interest rate further into negative territory and purchase of equities related exchange traded funds.

The first two options seems unlikely as the BOJ’s asset- purchase programme on government bonds has already swelled its balance sheet close to 80% of Japan’s GDP which has surpassed its developed peers, U.S. (24%) and Euro zone (27%). The introduction of negative interest rate on January 2016 has not created any positive effect as bank lending did not increase, inflation continued to dip and the JPY has strengthened.

Yesterday’s sudden and unusual announcement of a 28 trillion yen fiscal stimulus package by PM Abe without much details can be considered as putting pressure on BOJ’s to enact new or expand its current monetary easing policies to work in combination with the expansionary fiscal policies. A Bloomberg survey conducted on July 15-22 found that 32 out of 41 analysts expect BOJ to expand monetary stimulus (the highest percentage of respondents in any poll in over the last three years).

Therefore, the likely option left is to increase the purchase of equites related ETFs or some form of “helicopter money” money where BOJ directly funds the government on its fiscal spending programmes. However in recent public media interviews, Governor Kuroda has rejected the idea of “helicopter money”. But still remember what happened on 21 January 2016 (one week before the 29 Jan BOJ meeting) where Governor Kuroda made a speech in Japan parliament that BOJ is not adopting a negative interest rate policy?

Let’s us take a deep dive into USD/JPY from a technical analysis perspective

USD/JPY

(Click to enlarge charts)

Key elements

• The recent rally seen in the USD/JPY from its long-term key support zone of 100.70/99.00  has stalled at the upper boundary of a medium-term descending channel in place since 29 January 2016 high now acting as a resistance at 106.30 (see daily chart).
• From the key reversal low of 08 July 2016, the USD/JPY has started to evolve within a short-term ascending channel with the median line of the channel that also confluences with 106.55 (upper boundary of the medium-term descending channel (see 4 hour chart).
• The daily (medium-term) RSI oscillator is now at its pull-back support coupled with the short-term, 4 hour Stochastic oscillator that is turning up from an extreme oversold level. These observations suggest that the downside momentum of the recent decline from 20 July 2016 high has started to abate.
• Based on the Elliot Wave Principal and fractal analysis, the recent upside movement from the 08 July 2016 low of 99.98 has appeared to be impulsive in nature and it may have completed a bullish cycle, wave 1/ of a minor degree at the 21 July 2016 high of107.49. The recent decline has almost retraced 50% of the rally from 08 July 2016 to 21 July 2016 high. Combined with a 1.236 Fibonacci projection target being met for the current decline from 21 July 2016 high, it is likely that the low of the corrective/counter-trend wave 2 has been met at 104.20 on 26 July 2016.  Therefore, the USD/JPY may start to undergo another bullish cycle of minor degree, impulsive wave 3/ at this juncture.
• The key medium-term support to watch will be at 103.55/30 which is defined by a Fibonacci cluster and the minor swing high area of 01 July 2016 (see 4 hour chart).

Key levels (1 to 3 weeks)

Pivot (key support): 103.55/30

Resistances: 106.55 (upside trigger), 108.50 & 111.40

Next support: 100.70/99.00 (long-term key support)

Conclusion

Given that the USD/JPY is being used a proxy of risk appetite and tomorrow’s price action of the USD/JPY will determine the movement of risk assets such as equities in the coming weeks.

As long as the 1035.55/30 medium-term pivotal support holds and a break above 106.55 (upper boundary of the descending channel) is likely to add impetus for another round of potential upside movement to target the next resistances at 108.50 follow by 111.40. This positive scenario will create a positive feedback loop for equities to stage another round of post- Brexit rally.  

On the other hand, a break below 103.55/30 (daily close) is likely to see the continuation of the decline to retest the key long-term support at 100.70/99.00 which will also trigger a potential multi-week decline for most equities.

Charts are from eSignal

Disclaimer

This report is intended for general circulation only. It should not be construed as a recommendation, or an offer (or solicitation of an offer) to buy or sell any financial products. The information provided does not take into account your specific investment objectives, financial situation or particular needs. Before you act on any recommendation that may be contained in this email, independent advice ought to be sought from a financial adviser regarding the suitability of the investment product, taking into account your specific investment objectives, financial situation or particular needs. All queries regarding the contents of this material are to be directed to City Index, a trading name of GAIN Capital Singapore Pte Ltd.

Trading CFDs and FX on margin carries a high level of risk that may not be suitable for some investors. Consider your investment objectives, level of experience, financial resources, risk appetite and other relevant circumstances carefully. The possibility exists that you could lose some or all of your investments, including your initial deposits. If in doubt, please seek independent expert advice. Visit cityindex.com.sg for the complete Risk Disclosure Statement.