US Dollar / Japanese Yen Monthly Technical Forecast

[B][B]US Dollar / Japanese Yen Monthly Technical Forecast[/B][/B]

Near term structure lacks clarity but the long term bearish outlook remains intact. For years now, I’ve maintained that a 5th wave decline below 79.75 is required in order to complete a multi-decade 5 wave decline. 5th waves can take the form of diagonals - which may be what is going on here. Bears should be comforted by former support holding as resistance near 101.00 just several months ago (April). Follow the Daily Technicals for shorter term developments. As of now, we are bearish against 95.10.

A significant gap in interest rate expectations in the dollar’s favor has failed to inspire support for the USDJPY. A decline in the spread from 86 bps to 75 is more representative of the waning optimism that has provided support for the Yen. The interest expectations for the U.S. have slipped as considerable slack remains in the domestic and global economy and concerns over the scope of a recovery grow.

Risk sentiment continues to be the primary driver of price action for the pair and should be the main focus for traders. Interest rate expectations will have little impact until market participants believe that the Fed intends to begin their exit strategy from their current accommodative policy. At that time we may see rate differentials have a greater influence over sentiment for the pair, but that isn’t expected until mid 2010.

[B][B]US Dollar / Japanese Yen Valuation Forecast[/B][/B]

[B]USDJPY Valuation Forecast: [/B][B]Neutral[/B]

After five months of trading effectively at its “fair” value against the US Dollar, the Japanese Yen has slipped a bit into overvalued territory. As before, the yield outlook and comparative economic growth expectations are biased in favor of the greenback. Indeed, median estimates from a survey of economists conducted by Bloomberg suggest that US GDP growth will outpace that of Japan by an average of 2.5% through the end of 2010. The possibility of a downward correction in equity markets creates a distinct possibility that the Yen will continue to strengthen, however, any return to risk aversion would prompt carry trade liquidation and boost the currency. To that effect, we see it prudent to remain on the sidelines for the moment as a potentially larger (and therefore more attractive) valuation disparity may be developing in the weeks and months ahead.

[B]What is Purchasing Power Parity?[/B]

One of the oldest and most basic fundamental approaches to determining the “fair” exchange rate of one currency to another relies on the concept of Purchasing Power Parity. This approach says that an identical product should cost the same from one country to another, with the only difference in the price tag accounted for by the exchange rate. For example, if a pencil costs €1 in Europe and $1.20 in the US, the “fair” EURUSD exchange rate should be 1.20. For our purposes, we will use the PPP values provided annually by Bloomberg. We compare these values to current market rates to determine how much each currency is under- or over-valued against the US Dollar.