How Far Can the Yen Go?

The sudden depreciation of the yen might help the BOJ reach its targets, but that doesn't mean Japanese officials will let it go on forever.

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Not like this

The yen has been hovering around the 135.00 handle against the euro since the end of last month. After the sudden depreciation experienced in the weeks before, some might be thinking that the currency has finally reached some level of resistance at the psychological level of 140.00. But history has shown that the yen can move quite a bit more if left to its own devices. Particularly if there are global issues like higher inflation and tightening interest rates.

Of course, the BOJ has been struggling with low inflation for ages. The unprecedented easing cycle was intended to create a "virtuous cycle driven by demand". That is, higher-paid workers would spend more, driving up demand, increased investment, and then higher wages. But the lower yen implies a higher cost of imported goods and raw materials, which would eventually lead to less demand, and a slowing economy.

It might be transitory

The median survey shows an expectation that inflation will reach 2.1% in April, and finally reach the BOJ's target. This means that speculation will continue to increase and that the bank will finally have to step in. Japan is heading to the polls in June, which could apply further pressure on officials to address economic issues. Last month's inflation figures were distorted by a 50% drop in mobile costs after government intervention, meaning that underlying inflation might already be at the BOJ's target and accelerating.

With the Fed pushing forward with raising rates, the yen is fundamentally under pressure unless the BOJ comes out to finally change its extreme accommodative stance. But after 9 years of running a program to increase inflation, Governor Kuroda might be caught off-guard by a sudden spike in prices.

The current sideways trend in the yen might be mostly down to anticipation that the BOJ will do something. But the longer the official stance remains unchanged, the more pressure there will be to push the pair higher.

EUR/JPY shows divergence

Despite being overbought, EUR/JPY price action shows a clear bearish divergence against its stochastic indicator. After hitting a 7-year high at 140.00, the pair slid to 134.78 and it now ranges.

However, it trades below 137.50 - the top that could have offered a bounce should there be a rejection. And this ‘test’ to lower territories adds to the downside bias. Breaking below 134.12 opens up the road to 127.00. In between, 131.72 is the 50-week average.

If 134.12 holds bears, 140.00 is a major top, then 145.00. In the interim 137.50 is a pivot point since there are no notable levels currently observed.

Source: Spreadex trading platform

Key takeaways

EUR/JPY is currently hovering below the 140.00 handle but global issues could keep devaluating the currency. Some people are hopeful that the Bank of Japan will finally be forced to hike after Japan’s low inflation hits the bank’s target in April. Until the official rate changes, the pair will perform according to speculation of a hike after 9 years of accommodation while subsequently against a hawkish Fed.