- USD/JPY has decoupled from US Treasury yields, creating uncertainty
- Trump inauguration may trigger significant market volatility, depending on tariff decisions
- BoJ’s rate decision looms, with a 25bp hike favoured
- USD/JPY upside hinges on a positive risk environment soft tariff stance
Summary
This analysis note explores the evolving drivers of USD/JPY, including the recent breakdown of its correlation with Treasury yields and other influences. With Donald Trump’s inauguration and the BoJ’s rate decision as focal points, it outlines key scenarios and their implications. Technical levels and momentum signals are highlighted to frame the risks and opportunities ahead for traders.
US Yield Domination crumbles
US Treasury yields have been a dominant force driving USD/JPY direction for much of the past year, but that has changed in early 2025. As seen in the chart below, its near-perfect correlation with longer-dated Treasury yields has disintegrated on a daily timeframe over the past month. Nor has there been any relationship with Japanese yields across the entire JGB curve, or with risk assets such as US stocks. While there has been a positive relationship with benchmark yield spreads between the United States and Japan—at 0.56 over the past month—even that relationship has weakened significantly.
Source: TradingView
While doubtful the relationship with interest rate markets has permanently broken down, for the first time in a while, USD/JPY is doing its own thing. Along with positioning over the calendar turn, which can deliver powerful yet temporary movements, the breakdown is likely explained by speculation about what Donald Trump will do when he takes office, along with what the BoJ will do with interest rates next week. Neither event has an obvious answer, creating an environment of extreme uncertainty.
Trump Tariffs: Bark Worse than Bite?
After Trump’s inauguration on Monday, markets will focus on what executive orders he puts in place regarding tariffs on imports entering the United States. During the election campaign, Trump flagged 25% tariffs on Canada and Mexico, up to 60% on China, and 10% on other nations. More recently, there has been speculation tariffs will be implemented gradually to avoid a sudden spike in inflation, rather than immediately.
It is impossible to say what markets have priced in, despite some of the commentary circulating in recent weeks. Depending on what is announced, there will be a sizeable market reaction, potentially violent if the details sit toward the extreme of plausible scenarios.
For USD/JPY, directional risks surrounding the inauguration look skewed to the upside.
While staggered tariffs and evidence of a willingness to negotiate will likely push Treasury yields lower, they would also deliver a significant boost to risk appetite. Directional risks under this scenario therefore screen as higher, as likely gains in riskier asset classes boost the appeal of yen carry trades.
At the other end of the spectrum, if Trump announces immediate and aggressive tariffs, it’s likely to spark a major risk-off episode in markets, potentially capping the rise in Treasury yields while losses in riskier asset classes pressure yen carry trades. That could lead to sizeable declines in USD/JPY.
A scenario somewhere in between may promote USD/JPY upside, as modestly higher Treasury yields and relief that extreme tariff risks have been avoided create an environment that may pressure the yen.
As for Trump’s approach, a look back to his first term as President suggests he tends to grade himself using the performance of the US stock market. Big losses on day one of his presidency would signal failure and deliver a substantial mark-to-market loss when he likely desires the opposite outcome. Therefore, on the balance of probabilities, the worst-case scenario screens as low to this scribe.
BoJ Hike No Certainty to Spark Yen Strength
Friday’s BoJ interest rate decision is the other big event for USD/JPY traders this week. Like Trump’s inauguration, the outcome is anything but clear. Not only is the announcement time uncertain – typically around 12:30 pm JST unless there is a significant policy change – but there is also no certainty about how much rates will be increased, if at all. Unlike other central banks that tend to move in quarter-point increments, the BoJ has raised rates by 20 and 15 basis points during this tightening cycle, leaving the key overnight rate at 0.25%.
Source: Bloomberg
After positive remarks on wages growth last week from BoJ Governor Ueda and his deputy Ryozo Himino, swaps markets have ramped up bets for a 25bp move on Friday, with the implied probability sitting at 88%. That is aggressive, leaving only modest room for yen appreciation if the bank follows through. A smaller hike or no change would see USD/JPY surge higher. A positive market reaction to Trump’s inauguration would increase the likelihood of the BoJ delivering a hike in line with expectations.
With markets pricing in two 25bp hikes this year, the BoJ’s updated inflation forecasts will need to support further hikes to avoid triggering a yen sell-off. When last updated in October, the BoJ forecast CPI less fresh food prices and CPI less fresh food and energy prices to rise by 1.9% in 2025, just shy of the BoJ’s 2% target. Similar or higher forecasts will likely be required to prevent yen weakness. Also watch for commentary on wages and inflation trends from Governor Ueda during his regular press conference at 3:30pm JST.
Source: BoJ
Event Calendar
The remaining events calendar for the week ahead is found below. Other than the BoJ decision, none screen as particularly important, although Japan’s inflation report would generate volatility if an unlikely sizeable downside surprise were to occur. All times shown are US eastern time.
Source: Refinitiv
USD/JPY Technical Picture
USD/JPY suffered a rare weekly decline heading into the inauguration and BoJ decision, with a sizeable reversal in US Treasury yields likely contributing to the downside break of the rising wedge it had been sitting in over the past month. Recent price action, alongside bearish signals from momentum indicators such as RSI (14) and MACD, suggests selling rallies and downside breaks may be the preferred strategy. However, given the event risk and assessment that upside risks could dominate, this signal arguably carries less weight than usual.
Source: TradingView
155.00 is where the recent downturn stalled, making it an initial focal point for traders. The key 50-day moving average and the September uptrend are other downside levels to watch. A break below the latter appears unlikely in the near term, especially with the important 200-day moving average nearby.
On the topside, dips toward 156.00 were bought before the latest leg lower, suggesting sellers may now be active around this level. Other notable resistance levels include 158.88, 160.23, and 161.95.
— Written by David Scutt
Follow David on Twitter @scutty
