USD/JPY keeps the red below 138.00 mark, nearly two-month low amid bearish USD

• USD/JPY drifts lower for the seventh straight day and hits a nearly two-month low on Friday.
• Speculations that the BoJ will tweak its YCC policy underpin the JPY and act as a headwind.
• Bets that the Fed is nearing the end of its rate-hiking cycle keep the USD on the defensive.

The USD/JPY pair prolongs its recent downfall for the seventh straight day on Friday and drops to a nearly two-month low, around the 137.75 region during the Asian session.

The Japanese Yen (JPY) continues to draw support from growing speculations that the Bank of Japan (BoJ) could tweak its Yield Curve Control (YCC) policy as soon as this month. In contrast, the Federal Reserve (Fed) is expected to hold interest rates after a 25 bps lift-off in July, which keeps the US Dollar (USD) depressed near its lowest level since April 2022 and contributes to the prevailing selling bias surrounding the USD/JPY pair.

Data released recently showed that Japan's nominal base salary grew at the fastest pace in 28 years in May. This is expected to push inflation higher, which has exceeded the 2% goal for more than a year, and should put pressure on the BoJ to adjust its ultra-loose monetary policy settings. This lifted the yield on the benchmark 10-year Japanese government bond to its highest level since late April on Wednesday and continues to benefit the JPY.

Market participants, meanwhile, now seem convinced that the Fed is nearing the end of its rate hiking cycle. The bets were lifted by the US CPI report on Wednesday, which showed a further moderation in consumer prices. Adding to this, the US Producer Prices Index (PPI) recorded the smallest annual rise in nearly three years in June. This comes on the back of signs that the US labor market is cooling and should allow the Fed to soften its hawkish stance.

This led to the recent sharp decline in the US Treasury bond yields, narrowing the US-Japan rate differential and underpinning the JPY. Apart from this, a modest pullback in the US equity futures might further boost demand for the safe-haven JPY and suggests that the path of least resistance for the USD/JPY pair is to the downside. That said, extremely oversold conditions might hold back traders from placing fresh bearish bets and help limit losses.

Nevertheless, the USD/JPY pair remains on track to register its worst weekly decline since November 2022 and the aforementioned fundamental backdrop remains tilted in favour of bearish traders. Market participants now look to the release of the Preliminary Michigan US Consumer Sentiment Index for some impetus on the last day of the week.

Technical levels to watch