Real interest rate support for the dollar has significantly eroded in recent months as US real rates have fallen in absolute terms and relative to those of other major economies. It is hard to imagine the Fed being a source of renewed support in the near term, and so Q2 may see a range-bound USD/JPY and EUR/USD, while drivers of currency moves will come from elsewhere, outside G3; Brexit risk and the outlook for crude oil prices are two major candidates.
...A break through 1.16 for EUR/USD needs the real yield spread to narrow by about 25bp. That would need 10-year nominal Treasury yields to fall comfortably below 1.5%. I think a 1.16-1.06 range holds. That’s a fairly wide range, but it’s captured nearly all the price action since last February, and the moves within that range are likely to depend on the ebb and flow of bond market sentiment and the vagaries of each and every economic statistic. We don’t intend to publish any directional EUR/USD ideas until there’s a chance of a clearer trend emerging.
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The yen’s recent strength has been driven by tumbling Japanese inflation expectations, which have driven real Japanese yields higher against both US and European ones, even as nominal Japanese yields fall into negative territory. The strengthening yen in turn feeds disinflationary pressures in Japan.
Short of direct intervention, the BoJ needs either higher inflation expectations or a more hawkish Fed to turn USD/JPY around decisively. Neither appears in the offing near-term.
...Our technical analysts note layered resistance between here and 106 in USD/JPY (see below). There is also the fact that CFTC data show the speculative yen net position at near historical highs. More broadly, we expect that last year’s low of approximately 93 in the DXY Index to hold. We therefore see good support for USD/JPY near current levels.
Technicals: Earlier this year, USD/JPY confirmed a massive Head-and-shoulders pattern, which has led to a steady decline, and it looks poised to achieve the projected potential at 106. This week, the pair breached below a daily descending channel limit (110), signaling an acceleration of the downtrend.... Immediate upside is likely to be contained at the channel limit near 110.