Market update: Japanese inflation surprises - yen stabilises as USD/JPY tests key levels

Japanese inflation beats forecast but continues steady decline

Inflation in Japan for January outperformed expectations, registering at 2.2% versus the previous 2.6%. Despite the easing price pressures observed since October's peak at 3.3%, market focus remains on the inflation rate staying above 2%, with the core figure exceeding the anticipated 1.8% to reach 2%.

The Bank of Japan (BoJ), now more than ever, scrutinises inflation as it contemplates moving interest rates out of negative territory. The BoJ has outlined two conditions for a potential rate hike: inflation must remain stably above 2% and wage growth should exhibit a similar trend.

USD/JPY dips but remains in the ‘danger zone’

USD/JPY saw a decline on Tuesday following January's inflation data, which maintained rates above 2%, bolstering the yen albeit not strongly enough to indicate further appreciation. The pair remained above the critical 150.00 mark, a level previously prompting FX intervention by the Ministry of Finance in 2022. Despite official denials of monitoring the USD/JPY level, volatile declines impacting the local economy have been targeted.

The pair trades around 150.23 at midday (GMT) but respects the psychological level of support at 150.00. The FX market has not regarded recent warnings by Tokyo officials as credible and have continued to favour carry trades, to the detriment of the yen.

The pair is likely to see a pick up in volatility from tomorrow into Thursday when high impact US data in the form of US Q4 GDP (second estimate) and PCE data are due. Apart from that, there is little to suggest that the yen will gain favour particularly when you consider the one-sided positioning form large hedge funds and money managers.

USD/JPY daily chart

‘Smart money’ positioning continues to accumulate on the short side for the yen as can be seen in the chart below, depicting the latest positioning data from the CFTC’s Commitment of Traders report. The downward histograms reveal the net position of large funds which is approaching recent lows as short positions have been added at a notable pace over the last few weeks.

EUR/JPY uptrend remains intact

EUR/JPY has been on an upward trajectory as the yen weakens against G7 currencies. The pair has comfortably traded above 161.70, eyeing a push towards 164.31, the peak of its major 2023 advance.

After retracing approximately 38.2% of its major gain by the end of 2023, it found robust support, repelling lower prices and has since been on the rise.

Today's slight decline reflects optimism for an eventual move away from negative interest rates, backed technically by an inflation report surpassing expectations. The RSI suggests a modest pullback could be beneficial, while the MACD indicates continued bullish momentum, potentially retesting 164.31 unless Tokyo officials intervene.

EUR/JPY daily chart

AUD/JPY turns the corner ahead of monthly Australian CPI data

AUD/JPY showed signs of bullish fatigue late last week, with long upper wicks on Thursday and Friday's daily candles. A decline on Monday corresponded with a dip in Asian-linked sentiment, as Chinese indices ended an eight-day winning streak, dampening risk appetite.

The upcoming Australian CPI data for January could boost the Aussie dollar, with inflation expected to rise to 3.6% year-on-year from December's 3.4%.

The recent pullback may be temporary, especially considering the prior rally and the significant short positions in the yen.

AUD/JPY daily chart

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