What Could Reverse The USDJPY Uptrend?

Both Fed and Bank of Japan policy favors continued uptrend for the USDJPY. What fundamental drivers could oppose that move?

The following is a partial summary of conclusions from our weekly fxempire.com  analysts’ meeting, during which the USDJPY trend was a hot topic.

The USDJPY has just finished its first consecutive 3 week pullback since October.

USDJPY WEEKLY CHART OCTOBER 2012 – PRESENT:10 WEEK EMA DARK BLUE, 20 WEEK EMA YELLOW, 50 WEEK EMA RED, 100 WEEK EMA LIGHT BLUE, 200 WEEK EMA VIOLET, DOUBLE BOLLINGER BANDS NORMAL 2 STANDARD DEVIATIONS GREEN, 1 STANDARD DEVIATION ORANGE

Source: MetaQuotes Software Corp, www.fxempire.com,  www.thesensibleguidetoforex.com

03 jan 132200

Long term upward momentum remains intact. For example:

• Note the layering of shorter duration EMAs above those of longer duration
• Price is still holding near the upper quartile of the double Bollinger bands (aka the double Bollinger band buy zone, here bounded by the upper green and orange Bollinger bands). As long as price stays in that upper quartile, that suggests the upward momentum remains intact. For details on how to read and interpret double Bollinger bands, see: 4 RULES FOR USING THE MOST USEFUL TECHNICAL INDICATOR, DOUBLE BOLLINGER BANDS

That said, we at fxempire.com started wondering if the pullback is just a normal retracement or the start of something more. In theory it should just be a temporary thing, given that the BoJ remains in easing mode and the Fed is slowly moving towards tightening, albeit with possible pauses.

So, aside from the current technical resistance around the 105 area, what would it take to reverse the strong USDJPY trend?

The question is always worth asking.

Although traders are supposed to trade in the direction of the prevailing trend (in the relevant time frame in which they trade), we all prefer to get aboard those trends, early, just as we get enough technical and fundamental evidence to justify opening  our first, partial position.

They’re the lowest risk, highest reward trades, so it pays to invest the time researching and monitoring potential trend reversals. Part of that involves trying to come up with realistic trend reversal scenarios, especially for those trends that look unstoppable, and have thus become expensive, crowded, and thus vulnerable to sudden plunges as the weak hands and newbies flee en masse, often prompted by the well-funded institutions playing head games with the herd for fun and profit.

These newly reversing trends, are the lowest risk entry points because they occur near strong support, which is a relatively long term low or high, depending on whether you’re looking to ride and uptrend or a downtrend. If that support breaks below your planned stop loss, you’re out long before you incur a material loss.

They’re also the highest yielders, because, hey, you got in at the start. Now the only trick is not to exit too quickly. Just set your trailing stop right and that’s unlikely. See chapter 5 of my book for a step by step guide on how we identify and execute these low risk high yielders, and chapter 7 for a whole chapter’s worth of examples. You can view a detailed overview of these chapters here using the “Look Inside” feature and selecting Table of Contents.

So when my long hours of daily market monitoring (the foundation of these articles designed to save you time and effort) turned up the following (via seekingalpha.com’s market currents, global and fx vertical), it got my attention. I paraphrase and expand upon it below.

Although everyone is justifiably bearish on the JPY (FXY), including Japan’s Prime Minister and central bank head who are intentionally trying to toss the Yen under the bullet train, Morgan Stanley made the case for a “tradable retracement” in dollar/yen back down to ¥98 (from nearly ¥105) this past week.

Morgan Stanley mentioned the following possible catalysts:

A debt-induced slowdown in China or another big trading partner hitting regional growth

• Something to upset the current complacency in global financial markets.
• Glitches in Abenomics (Japan PM Abe’s reckless desperate final attempt to avert economic collapse bold measures to boost long-term competitiveness by devaluing the Yen to boost exports and raise inflation) fail to devalue the JPY.
• The BOJ, contrary to expectations, fails to ease and allows the JPY to rise for a while. Another JPY- debasing easing could be months away.

I add the following catalysts (to these of my esteemed and much better paid forex traders and analysts at Morgan Stanley) for a new countertrend in the Yen

• An unanticipated global interest rate spike that sparks a flight to safe-haven assets and currencies and so sends the JPY higher and Nikkei lower. The most likely source of this would be some kind of Fed communication or taper acceleration that causes speculators to anticipate higher rates and so sell US treasury debt and drive yields higher.

• Some other big flight-to-safety event that drives up the JPY. For reasons discussed here and here and in other posts over the past months (see here) the most likely event is a new EU solvency concern that threatens to become a systemic risk that crashes markets beyond its point of origin.
• Other possibilities include a spike in geopolitical tensions. A flare-up tensions between China and Japan that could directly undermine the JPY or ironically boost it (given its safe haven status), depending on how it plays out.

Those unwilling or unable to trade currency pairs on the spot market can also ride this trend reversal if and when it happens via assorted Yen surrogates or assets that move with it, for example:

• The Yen’s ETF surrogates like FXY or other ETFs that track long or short JPY positions
• The Nikkei (or its ETF and other surrogates) because the Nikkei tends to move in the opposite direction of the JPY. That’s because like any stock index, it’s a risk asset, and the JPY is a safe haven asset. Also, as an exporter dominated index, a cheaper JPY is bullish for the Nikkei and vice versa. For more on understanding various aspects of intermarket analysis, like the definitions of risk and safe haven assets (the labels are deceptive), their correlations and what can change them, see here.

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DISCLOSURE /DISCLAIMER: THE ABOVE IS FOR INFORMATIONAL PURPOSES ONLY, RESPONSIBILITY FOR ALL TRADING OR INVESTING DECISIONS LIES SOLELY WITH THE READER.