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Abstract: USDJPY climbed to 138.91 before the New York session on Tuesday, the highest level since May 28. Subsequently, the Markit U.S. service industry and manufacturing PMI in May, which recorded mixed results, put the USDJPY on the defensive against bulls. We have always believed that prices should return to the average before they are pushed up further.

Fundamentals

Japan's PMI manufacturing industry rose from 49.5 to 50.8 in April, indicating that the operating conditions have improved for the first time since October 2022. The service PMI rose from 55.4 to 56.3. The comprehensive PMI output rose from 52.9 to 54.9.

As the further expansion in May shows, Japan's private sector economy continues to maintain an upward trend. The growth rate accelerated from April, reaching the highest level since October 2013 and the second highest level in the survey history (since September 2007).

Service providers continue to report strong growth momentum, and business activities have reached a record high, while manufacturers say that their business conditions have improved for the first time in seven months, and output and new orders have returned to the expansion area for the first time since last June.

At the same time, the comprehensive PMI price index shows that although inflationary pressure has eased since April, it is still generally at a high level in May.

Inflation has become a hot topic for Japanese policymakers, which marks the earth-shaking changes after years of deflation. Japan's inflation rate is about 3%, far lower than other major economies, but still higher than the Bank of Japan's (BOJ) target of 2%.

The new inflationary pressure forces the central bank to raise interest rates, but the BOJ is still an exception because it continues to implement ultra-loose monetary policy. However, change seems to be coming. Kazuo Ueda, the new governor of BOJ, has said that if inflation remains at 2%, he will tighten the policy, which makes every inflation data a potential market promoter.

Last week, the core CPI rose to 3.4% in April, up from 3.1% a month ago. Rising inflation, coupled with a stronger-than-expected GDP report in the first quarter, has sparked speculation that the BOJ may tighten its policy in the near future.

If the BOJ tightens its policy, it may adjust or gradually cancel its yield curve control policy instead of raising interest rates.

The BOJ expanded the target range of Japan 10 Year Government Bond in December last year, which led to a sharp rise in the JPY. Expanding the target range again may push up the JPY, and speculators bet that Kazuo Ueda will eventually change its policy to boost the JPY.

Technical Analysis

In yesterday's trading, the USDJPY closed above its 200-day SMA, forming a higher swing high, which confirms the continuation of the bullish trend; if the USDJPY forms another higher swing high, then we could see a bullish continuation.

After a 3-day consolidation above 137.29 in the 1D timeframe, the bulls broke mildly above the intraday high in the New York session. While we are supportive of the bulls retesting the 140.00 area, and while the bulls could use the December highs to help tighten risk management, we are also aware of the fact that the Relative Strength Index (RSI) is forming a bearish divergence and that the U.S. and Japanese 2-year Treasury Yield spreads have not risen at the same relative pace as the USDJPY's spot price during 2018.

While neither of these is a clue to an impending top, it is something to keep an eye on as the trend matures.

In the 4H timeframe, it shows that the price continues to move higher after a shakeout at the end of the bullish channel. The narrow consolidation above 138.40 is complemented by a bullish engulfing candlestick, indicating that momentum is looking for an upward breakout; however, in the near term, we are looking for a return to fair value, targeting the 136.80 - 136.10 area. It is recommended to retreat from the current price and buy the dips.

Trading Recommendations

Trading direction: Long

Entry price: 136.80

Target price: 141.10

Stop loss: 135.40

Deadline: 2022-06-06 23:55:00

Support: 137.38, 136.33, 135.65

Resistance: 138.91, 139.89, 141.10