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USD/JPY Fundamental Weekly Forecast – Plunging U.S. Treasury Yields Making Dollar Less Attractive Investment

James Hyerczyk
All eyes are likely to be on the relationship between U.S. Government bond yields and Japanese Government bond yields. Last week, U.S. yields plunged, inverting the yield curve which stoked fears that an economic recession is on the horizon.

The Dollar/Yen finished sharply lower last week in reaction to a major shift in U.S. Federal Reserve policy and its negative impact on U.S. Treasury yields. The Fed’s decision to pause rate hikes in 2019 helped tighten the spread between U.S. Government bond yields and Japanese Government bond yields, making the U.S. Dollar a less-desirable investment.

Last week, the USD/JPY settled at 109.919, down 1.550 or -1.39%.

Federal Reserve Recap

On March 20, the U.S. Federal Reserve left its key interest rate unchanged while projecting no rate hikes in 2019, dramatically underscoring its plan to be “patient” about any further increases. Central bank policymakers also pared its forecast of U.S. economic growth this year to 2.1 percent, down from its previous projection of 2.3 percent and the roughly 3 percent pace of expansion in 2018.

“We foresee some weakening, but we don’t see a recession,” Federal Reserve Chairman Jerome Powell said in a press conference. It its policy statement, the Fed said that the job market remains “strong” but noted that “growth of economic activity has slowed” since late 2018.

The Fed also announced it will stop reducing its bond portfolio in September, a step that would help hold down long-term interest rates.

Weekly Forecast

All eyes are likely to be on the relationship between U.S. Government bond yields and Japanese Government bond yields. Last week, U.S. yields plunged, inverting the yield curve which stoked fears that an economic recession is on the horizon.

On Friday, the spread between the 3-month Treasury bill and the 10-year Treasury note turned negative for the first time since 2007. Investors consider this to be a signal that a recession may be coming soon.

As of Friday’s close, the yield on the 3-month Treasury bill was 2.459 percent while the yield on the 10-year Treasury note was 2.437 percent, according to Refinitiv TradeWeb data. This was the first time in twelve years the spread had reached negative territory.

“I’d highlight that the 3-month to 10-year spread is important because the Fed has done a lot of research on which best predicts future recessions and it found that one to be preferable,” said BMO Capital Markets rates strategist Jon Hill. However, Hill did add that while the recent inversion does not guarantee a recession, BMO’s work on the Cleveland and New York Fed’s models suggests a 30 percent chance of a recession in the next 12 months.

President Donald Trump’s chief economic advisor, Larry Kudlow, agreed that the spread between the 3-month yield and the 10-year yield is the most important difference to monitor.

Other News

A steep sell-off in U.S. stock index futures in reaction to a stock market plunge in Asia is also helping to pressure the USD/JPY. Stock market weakness is encouraging investors to seek shelter in the safe-haven Japanese Yen.

There are no major reports from Japan this week, but U.S. investors will get the opportunity to react to fresh data on consumer confidence and Final GDP. However, the price action will be largely driven by the direction of U.S. Treasury yields. Look for the USD/JPY to continue to weaken as long as Treasury yields continue to drop.

This article was originally posted on FX Empire

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