The Japanese yen has staged a strong comeback in the past few weeks, triggering a strong dip in the AUD/JPY and USD/JPY pairs. The Australian dollar to JPY exchange rate has slumped in the past five straight days and moved to 93.30, its lowest point since October last year. It has dropped by over 14.7%, meaning that it has moved into a deep correction.
The same has happened on the USD/JPY, which has dropped in the past five days, moving to the key support at 143.52, its lowest point since January 4th. As I wrote last week, the GBP/JPY exchange rate has also been in a strong sell-off.
Unwinding the carry trade
The main reason why the USD/JPY and the AUD/JPY exchange rates have sunk is that traders are unwinding a carry trade that has existed for years.
A carry trade is a situation where investors borrow money from low-interest-rate countries and invest it in higher-yielding ones. The Japanese yen has been one of the most popular currencies to carry trade in the past decade.
For a long time, investors were able to borrow cash at negative rates in Japan and then shift them to higher-yield countries like the United States and Australia. In the US, interest rates sits at 5.50%, meaning that these investors made a 5% return in this way.
Now, the carry trade is being unwound as central banks have started to diverge. The Bank of Japan caught investors by surprise by hiking interest rates by 0.25% and reducing the scale of the quantitative easing policy. It was the BoJ’s second interest rate hike of the year.
On the other hand, there are signs that the Fed is moving in the opposite direction. In its meeting last week, the Fed decided to cut interest rates unchanged at 5.25% and 5.50%.
The bank also hinted that it will start cutting interest rates as soon as in September if the economy continues worsening. This view was confirmed on Friday when the US published weak non-farm payroll (NFP) data.
The data revealed that the economy created just 114,000 jobs while the unemployment rate rose to 4.3% and wage growth decelerated. As such, some investors believe that the Fed could respond by delivering a jumbo rate cut in September.
USD/JPY technical analysis
The daily chart reveals that the USD to JPY exchange rate has been in a steep sell-off in the past few weeks. This sell-off started when the Bank of Japan (BoJ) intervened in the forex market by pumping as much as $22 billion to the market. It then accelerated after last week’s rate cut.
The pair has now slumped below the 50-day and 200-day Exponential Moving Averages (EMA). At the same time, the Relative Strength Index (RSI), Stochastic Oscillator, and the Money Flow Index (MFI) have moved to the oversold levels.
Therefore, the pair will likely continue its falling this week as investors move to the Japanese yen. If this happens, it could move to the key support at 140.
RBA interest rate decision
The AUD/JPY exchange rate will be in the spotlight ahead of the upcoming Reserve Bank of Australia (RBA) decision. Like the Fed, the bank is set to leave interest rates unchanged for the sixth time.
The RBA will also hint that it will start cutting rates either later this year or in 2025 since the country’s trimmed and weighted mean inflation figures have started moving downwards.
In a report last week, the Australian Bureau of Statistics (ABS) showed that the weighted mean CPI dropped from 4.4% in Q1 to 4.1% in Q2 while the trimmed mean CPI moved from 4.0% to 3.9% in Q2.
Therefore, the RBA will change its tune in this meeting. In its last meeting, the RBA hinted that it wanted to hike interest rates since inflation has remained stubbornly above the 2.0% target rate.
AUD/JPY technical analysis
The daily chart shows that the AUD/JPY exchange rate peaked at 109.30 on July 11th and has crashed to its lowest point since July 2023. It has dropped below the ascending trendline that connects the lowest swings since December last year.
The pair has also crashed below the 50-day and 200-day Exponential Moving Averages (EMA). Like the USD/JPY pair, the Aussie to JPY has moved into an extremely oversold level, with the Relative Strength Index (RSI) moving to 10 and the Stochastic Oscillator dropping to near zero.
Therefore, the pair will likely have a dead cat bounce ahead or after the RBA interest rate decision on Tuesday. A dead cat bounce is a situation where an asset in a freefall bounces back briefly and then resumes the downward trend.
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