Real yield differentials will continue driving JPY performance - Morgan Stanley
From July 10th up to last Thursday, real rate differentials worked in favour of USDJPY. The perception of a better US economy and the equity market moving away from investing into dividends towards pushing funds into cyclicals pushed US real rates up. Around the same time, 10-year US real yields rebounded from -10bps to +5bps. Simultaneously, Japan's real yields moved lower due to rising inflation expectations pushed higher not only by progressive fiscal and monetary easing expectations, but also by higher oil and commodity prices.
However, yesterday's sharp 2.5% oil price decline backed by oil demand for the third quarter of 2016 growing by less than one-third the rate it did in the same period of last year does not bode well for Japan's inflation expectations. Oil has broken a significant chart level at 45.90 targeting 41.00, adding to USD/JPY selling pressure.
USDJPY has eased back from last Thursday's 107.50 level into the 104 handle. Key support is now located at 104.00 and a break of this level would identify 107.50 as a corrective top followed by impulsive weakness taking USDJPY closer to our Q3 projection of 97.
For bank trade ideas, check out eFX Plus.
