USDJPY meteoric rise stalls

Lim Jun Kit

USDJPY has been on a meteoric rise in the past two months, marking around a 14 per cent year-to-date gain when the pair hit a 20-year high of around 131.342 on May 9, 2022. At the time of analysis on May 20, 2022, the pair had slid into a corrective phase after the steep rally, with a pullback of 2.5 per cent from its recent high. This article will highlight several observations that point to a deeper correction and some potential downside targets for the pair. 

Firstly, the completion of a month-long head and shoulders pattern signals further weakness for the currency pair. Head and shoulder patterns can be identified after an uptrend with 3 peaks supported by a common neckline support: the first and third peaks almost equal in height while the second peak is the tallest. In a typical case where prices break down from the head and shoulders neckline support, the magnitude of the downside target will be of equal height as the “head”.

To add on, USDJPY also displayed a double top pattern, as seen with the two peaks of similar height occurring on April 28 and May 9, respectively. This is another tell-tale sign that prices may have peaked and are due for a reversal. The synergy between the two chart patterns build a convincing case that USDJPY has further room to dip in this correction. 

Another sign that suggests the bulls are taking a breather is the weakening Relative Strength Index (RSI). RSI is a momentum indicator that signals overbought conditions when it rises above 70 and oversold conditions when it falls below 30. The 50 level on the RSI is regarded as the neutral zone, where prices are bullish when the reading is above 50 and vice versa. At the time of analysis, the RSI penetrated below the 50 line, suggesting the momentum could turn bearish. Moreover, a bearish divergence on RSI further cements the short-term bearish outlook. A bearish divergence is identified when prices make higher lows while the RSI reading makes lower lows, signalling a waning bullish momentum. The Moving Average Convergence Divergence (MACD) also paints the same picture, with the histogram sliding under the signal line.

Looking ahead, we anticipate that the USDJPY will retrace to retest the 50 period exponential moving average (50 EMA) trend line support. If the price manages to break below this level, traders could aim for 125.081 (S2) which is the technical breakdown target for the head and shoulders pattern. In the alternate scenario where prices rebound, the head and shoulders neckline support-turned-resistance is an important level to hold in order to validate the short-term bearish outlook.

The writer is strategist at Phillip Nova