– USDJPY has broken above major price resistance
– We think the price breakout along with our forex positioning data favors strength
– Key risk is sharp equity market turn lower
We have been calling for US Dollar strength against the Euro and other forex counterparts for a number of weeks now, and indeed we believe that this is the start of a large USDJPY breakout. Why do we believe so and—just as importantly—what could derail the USDJPY surge?
USDJPY Breaks Above Key Resistance, Favors Further Gains
Source: FXCM Trading Station Desktop, Prepared by David Rodriguez
One major reason for Japanese Yen weakness versus its US counterpart has been strength in the Japanese Nikkei 225; the correlation chart below emphasizes the strength of said correlation since the USDJPY set a major low in 2012.
Japanese Yen Weakness May Continue as the Nikkei 225 Surges
Data source: Bloomberg
Of course, this correlation is a double-edged sword; a turn lower in global equity markets could just as easily derail the USDJPY break higher.
In fact we saw a preview of said risk overnight as both the Nikkei and USDJPY tumbled on news of a potential airstrike in the Middle East.
Overnight Stock Market Tumble Underlines Risks to USDJPY Long Trade
Source: FXCM Trading Station Desktop, Prepared by David Rodriguez
We’ll have to keep an especially close eye on equities going forward, as it’s clear that sharp moves could derail the nascent USDJPY breakout. Yet our proprietary forex crowd sentiment data helps confirm that this may in fact be the start of a larger US Dollar breakout.
Major Shift in Forex Sentiment Suggests USDJPY Breakout is the Real Deal
Source: FXCM Execution Desk Data
We typically use our Speculative Sentiment Index data as a contrarian indicator to price action. Or in plain English: when everyone’s buying, we look to sell.
Recently our SSI data showed crowds at their most net-long USDJPY since the start of its impressive reversal in September of last year. That might normally make us bearish as price is likely in a downtrend, but impressively one-sided sentiment likewise warns of a potential turn.
Retail forex long positions in the USDJPY have fallen by a substantial 40 percent from their recent peak, and that has led our sentiment-based Momentum2 trading system to go in the opposite direction.
We like those positions as long as stocks continue to hold gains, and it will be critical to watch the Nikkei’s next moves going forward.
Receive future special reports on the USDJPY, forex positioning, and correlations via my e-mail distribution list with this link.
Forex Correlations Summary
View forex correlations to the SP 500, SP Volatility Index (VIX), Crude Oil Futures prices, US 2-Year Treasury Yields, and Spot Gold prices.
Data source: Bloomberg. Chart source: R
SEE GUIDE ON READING THE ABOVE CHART
— Written by David Rodriguez, Quantitative Strategist for DailyFX.com
David specializes in automated trading strategies. Find out more about our automated sentiment-based strategies on DailyFX PLUS.
Contact and follow David via Twitter: https://twitter.com/DRodriguezFX