USD/JPY is currently trading at the bottom of its trading range. Since early 2017 through to present, the currency pair has been largely (but admittedly not completely) limited to the trading range of 108.000 to 114.000.
A dip below the range occurred briefly in early September 2017, while a protracted deviation occurred between mid-February 2018 through April 2018. We also saw the flash crash as we moved into 2019 (which I successfully predicted, per my previous article on USD/JPY), which saw USD/JPY momentarily collapse. Nevertheless, the trading range of 108 to 114 has been substantially respected.
However, perhaps now more than ever, there is great potential for the pair to break down out of the trading range. Firstly, it is important to note that the pair has shown great resistance at the top of the range. Opportunities to break out of the range occurred at the beginning of 2017, May 2017, July 2017, November 2017, December 2017, October 2018, November 2018, and December 2018. Every single opportunity was rejected.
Meanwhile, the bottom of the range has been breached in two important periods (emphasis added using red shading in the chart below): February to April 2018, and separately the flash crash of late 2018/early 2019.
What would support a breakdown at this point is falling interest rates, in favor of the Japanese yen. As shown in the chart below, the spreads on both one-year and two-year government bonds (United States government bond yields minus Japanese government bond yields) are falling.
The purple line illustrates the two-year spread, and the green line represents the one-year spread. In other words, short-term rate differentials (which serve as useful proxies for the USD/JPY pair's carry) are collapsing out of range. Yet, the currency pair is in stasis, battling the bottom of the long-term trading range.
With falling yields showing no sign of abating, I believe the fundamentals will win over and the pair will ultimately break down. It is (probably) now time.
It is also interesting to note that medium-term volatility is very low (and in fact, if you look more broadly across the foreign exchange board, this is not limited to the USD/JPY pair).
Using 20-week, two-standard-deviation Bollinger Bands, we can measure Bollinger Band Width to get a rolling gauge on realized volatility: the greater the width of the bands, the more the volatility. As you can see from the indicator at the bottom of the chart below, the Bollinger Band Width (using a 20-week time frame) has been relatively low for some time.
If volatility were to now start picking up in the USD/JPY pair (and in the currency market more broadly), as we move into the summer months, then USD/JPY would likely need to fall. A climb higher would more likely beget even lower volatility, unless the surge was very significant; but upside potential is limited in light of collapsing rate spreads.
I set a target, then, for 100.650. You can see this on all charts presented heretofore, and more clearly in the chart below. The level matches similar lows met from June 2016 through September 2016.
A sustained resurgence in risk assets such as U.S. equities and commodities like crude oil, as well as a stabilization in U.S. rates, could throw this thesis into jeopardy. However, my base case for USD/JPY remains bearish (to the downside) for the time being.
Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.