USDJPY: Signs point to further upside

AFTER a meteoric rise that saw it soar by 50 per cent between March 2020 and October 2022, the USD/JPY currency pair had since retraced by as much as 16 per cent from its top at 151.9 on Oct 21, 2022, to a bottom at 127.2 on Jan 16, 2023. In tandem with the broad strength of the US dollar since the start of February 2023, the USD/JPY has also rebounded to hover slightly below 135 currently. We hold the view that the pair would retrace over the next few days before extending its gains in the following month.

The first clue that suggests further upside for the USD/JPY currency pair is the bullish breakout from an inverse head and shoulders pattern. An inverse head and shoulders is a typical bullish reversal chart pattern that can be identified by three lows that are capped by a common neckline resistance. Key characteristics of these chart patterns are that the first and third lows are similar in depth (shoulders), with the middle low being the deepest (head). On Feb 14, 2023, the USD/JPY on the daily chart broke out from the head and shoulders pattern, giving us a technical target around 138.5.

Aside from the chart pattern breakout, an imminent bullish cross of the 20 exponential moving average (20 EMA) above the 50 exponential moving average (50 EMA) also adds validation that the bullish trend is gaining pace. Therefore, we can expect further upside in the next few weeks. The last time an EMA crossed like this happened was in February 2021. It was followed by a sustained uptrend until October 2022. However, we do not forecast a full-blown bull run for the USD against the Japanese yen, given the changes in fundamental drivers.

Moreover, technical indicators like the Relative Strength Index (RSI) shows that the pair is in bullish territory with a reading above 60. The RSI is a momentum oscillator that suggests overbought conditions when the reading is above 70, while a reading below 30 shows an oversold condition. In an uptrend, the RSI tends to stay below 50, and vice versa.

Looking ahead in the short term, we expect the USD/JPY to retrace slightly from its recent rally, retest and establish support at levels around 132.88 (S2) and 131.58 (S3) in extension. In the event that the pair finds support above the aforementioned levels, our upside technical target lies at 137.7 and 138.5, which is the technical target for the inverse head and shoulders.

The writer is strategist at Phillip Nova