USD/JPY remains depressed around 127.60-65 region, downside seems cushioned

• USD/JPY edged lower on the first day of the week amid broad-based USD weakness.
• The risk-on impulse undermined the safe-haven JPY and helped limit further losses.
• The Fed-BoJ policy divergence also held back traders from placing fresh bearish bets.

The USD/JPY pair witnessed some selling on the first day of a new week, though managed to find some support ahead of the monthly low, around the 127.00 mark touched last Thursday. The pair remained on the defensive through the mid-European session and was last seen trading just a few pips above mid-127.00s.

The US dollar added to last week's heavy losses and dropped to its lowest level since April 26 amid a strong pickup in demand for the shared currency. Moreover, a 50 bps Fed rate hike move over the next two policy meetings is fully priced in the markets. The combination of factors dragged the USD Index to its lowest level since April 26, which, in turn, exerted some downward pressure on the USD/JPY pair. That said, a combination of factors acted as a headwind for the Japanese yen and helped limit any deeper losses, at least for the time being.

Investors turned optimistic amid hopes that loosening COVID-19 lockdowns in China would boost the global economy. This was evident from a generally positive tone around the equity markets, which tends to undermine the safe-haven Japanese yen. The risk-on flow was reinforced by a goodish pickup in the US Treasury bond yields. This, along with a big divergence in the monetary policy stance adopted by the Bank of Japan and the Fed, acted as a tailwind for spot prices. This, in turn, warrants caution before placing fresh bearish bets around the USD/JPY pair.

It is worth recalling that the BoJ has vowed to keep its existing ultra-loose policy settings and promised to conduct unlimited bond purchase operations to defend its near-zero target for 10-year yields. In contrast, the US central bank is anticipated to take more drastic action to bring inflation under control. Hence, the focus will remain on the minutes of the latest FOMC monetary policy meeting, due for release on Wednesday. This, along with key US macro data scheduled during the latter part of the week, would provide a fresh directional impetus to the USD/JPY pair.

In the meantime, the USD price dynamics might continue to play a key role in influencing spot prices amid absent relevant market moving economic releases from the US. Traders might further take cues from the broader market risk sentiment and the US bond yields to grab short-term opportunities around the USD/JPY pair.

Technical levels to watch