Original article by Matt Weller, FOREX.com
URL: https://www.forex.com/ie/news-and-analysis/usdjpy-usdcad-outlook-mean-reversion-risks-in-february/
USD/JPY and USD/CAD Outlook: Mean Reversion Risks Rising in February
By Matt Weller, FOREX.com
As we progress through the beginning of February 2024, forex traders are keeping a close eye on the USD/JPY and USD/CAD pairs amidst key trends driven by central bank policy expectations, economic data, and overall investor sentiment. Both currencies are highlighting potential risks of mean reversion after starting the year with notable movements.
Here’s an in-depth look at the evolving narratives surrounding these key currency pairs and the technical and fundamental indicators that suggest a possible shift in direction.
Macroeconomic Context at the Start of 2024
The US dollar began 2024 under a cloud of uncertainty after a surprisingly dovish December Federal Open Market Committee (FOMC) meeting. The Federal Reserve signaled the possibility of rate cuts in the year ahead, prompting the following market reactions:
– Traders quickly began pricing in more than 150 basis points in rate cuts for 2024.
– The US Dollar Index (DXY) fell sharply to close out the year.
– US Treasury yields dropped, particularly the 2-year and 10-year yields.
Since then, the picture has evolved:
– January’s US economic data surprised to the upside.
– Labor market strength persisted, with job creation remaining strong.
– Consumer spending showed resilience.
– Inflation remained more persistent than initially anticipated.
As a result, expectations for rapid Fed easing have moderated:
– The CME FedWatch tool now shows a more distributed pace of rate cuts.
– Markets are now pricing in around 100 basis points of rate cuts in 2024.
– Treasury yields have seen a rebound on the back of revised expectations.
– The dollar has found support, retracing some of its earlier weakness.
This evolving backdrop has had divergent impacts on major currency pairs. The USD/JPY and USD/CAD, in particular, are exhibiting signs of potential mean reversion after notable trends in January.
USD/JPY: A Rebound Threat or Another Leg Lower?
The USD/JPY pair declined sharply through much of December 2023 and into early January 2024, falling from above 148 to a low near 140. This was driven largely by falling Treasury yields and anticipation that the Bank of Japan (BoJ) might begin policy normalization this year.
However, recent developments have moderated this outlook:
– The BoJ has remained cautious in its language, refraining from any definitive hints of exiting negative interest rate policy just yet.
– Inflation in Japan has slightly declined, alleviating urgency for tightening.
– US yields have bounced, helping to stabilize USD/JPY.
– Risk sentiment has shifted more favorably for the dollar.
Technical analysis of USD/JPY reveals several noteworthy points:
– The pair found strong support around the 140.00 level in early January.
– A bullish reversal pattern has formed on the daily chart, marked by higher lows and resistance at 148.00.
– The 50-day moving average is curving upward and has provided dynamic support.
– Momentum indicators such as RSI have exited oversold territory and are now trending upward.
Key resistance levels to watch:
– 148.00: The January high and a key psychological level.
– 150.00: A significant round number and prior multi-decade resistance level.
Key support levels to monitor:
– 144.80: Near-term support from recent trading activity.
– 140.00: The major support zone seen in early January.
Fundamentally, there are several drivers of USD/JPY going forward:
– Central bank divergence: If the BoJ remains patient while the Fed slows its pivot toward easing, the policy gap could keep USD/JPY elevated.
– Treasury yields: Rising US yields indirectly
Explore this further here: USD/JPY trading.