USD/JPY Fundamental Weekly Forecast Fed Expected to Reveal Plan to Reduce Balance Sheet

A jump in U.S. Treasury yields underpinned the Dollar/Yen last week, sending the Forex pair to its highest level since July 27. The widening of the interest rate differential between U.S. Treasury Bonds and Japanese Government Bonds made the U.S. Dollar a more attractive investment.

Increased demand for higher risk assets also drove down the Japanese Yen with the Dow Jones Industrial Average hitting a new all-time and the benchmark S&P 500 reaching the 2,500 level for the first time, and also a new record high.

The USD/JPY settled the week at 110.823, up 2.986 or +2.77%.

Investors shrugged off another North Korean missile launch over Japan, a terrorist attack in London and generally weaker U.S. economic news including PPI, CPI and retail sales data, choosing instead to react to rising bond yields in the U.S. and Germany. All of these factors could have driven investors into the safety of the lower-yielding Japanese Yen.

Weekly Recap

It was a strange week in the Forex markets with the USD/JPY surging higher after Hurricane Irma left a path of destruction in its wake and selling-off after U.S. inflation showed improvement.

According to Bloomberg, Irma is expected to cost over $50 billion dollars for Florida. However the dollar strengthened because traders were pricing in close to $200 billion in actual damage.

The dollar also rallied against the Yen after the U.S. Labor Department said its producer price index for final demand increased 0.2 percent, missing the 0.3 percent estimate, because the number was an improvement over July's 0.1 percent loss.

However, the Greenback lost ground against the Japanese currency on Thursday even though data that showed a faster-than-forecast increase in domestic consumer prices boosted generally depressed expectations for another U.S. rate hike later this year. U.S. consumer inflation came in at 0.4%, higher than the 0.3% estimate and better than the 0.1% previous read.

On Friday, worried investors moved into the safety of the Japanese Yen as expected in reaction to another missile launch by North Korea, a terrorist attack in London and weaker-than-expected U.S. retail sales data. However, investors shrugged off the news and by the end of the session the Dollar/Yen had risen 0.54%. The move was likely position-squaring ahead of this week's Fed meeting.

Forecast

This week, investors will get the opportunity to react to central bank decisions from the U.S. Federal Reserve and from the Bank of Japan.

On Wednesday, the Federal Open Market Committee will make its interest rate decision, and issue its monetary policy statement. The FOMC will also release its economic projections and hold a press conference.

The Fed is expected to leave its benchmark interest rate at <1.25%. However, investors will be more interested in the Fed's plans to begin reducing its balance sheet and the timing of the next interest rate hike.

The Bank of Japan is widely expected to leave its benchmark interest rate at -0.10%. Like other central banks, the BOJ has flooded the market with liquidity while pledging to keep short-term interest rates at minus 0.1% and the 10-year bond yield around zero percent.

There is some chatter in the media that the BOJ might raise its bond yield target because of recent economic expansion. Otherwise, we should expect it to make no major changes to monetary policy.

This article was originally posted on FX Empire