Fundamental Outlook for Japanese Yen: Neutral

- Retail Sales Shrink for Seventh Straight Month in March
- Manufacturing Sentiment, Industrial Production Improve as Inventories Clear
- Bank of Japan Holds Interest Rates at 0.10% as Expected
- Unemployment Rises to Highest in 4 Years, Deflation Accelerates

The Japanese Yen is likely to see a nearly empty economic calendar give way to risk sentiment as the dominant force guiding price action once again. The rally across global stock markets has shown resilience, sapping demand for safe-haven assets and weighing on the Yen. Indeed, the Japanese unit was the only major currency to lose ground to the US Dollar over the past week, slipping -2.4%. Next week, however, the tables may turn against risky assets with a slew of event risk threatening the currently dominant rosy outlook. Tuesday will brings a testimony from Federal Reserve Chairman Bernanke, with the central bank chief likely to strike a cautiously hopeful tone echoing the wording from the last FOMC interest rate announcement. While this boosted stocks last week, the markets have had ample time to price it in at this point so it is unlikely to have much of a positive impact in and of itself. In fact, the Fed’s decision to delay the release of bank stress test results for fear that undercapitalized institutions would see their share prices punished may impact the market’s view of the central bank as a reliable source of information and prompt selling. While it is very reasonable that the Fed is seeking to bolster confidence in lending institutions amid a credit crisis, it is critical that Bernanke and company are trusted as fair-handed, for if the markets suspect that policymakers are more focused on creating a perception of stability rather than assuring its actual existence the Fed will lose a great deal of credibility. The expected release of the revised stress test results on Thursday will be very telling: initial reports have hinted that at least six major institutions including Bank of America and Citigroup are in need of additional capital; if the revised result is more upbeat, investors may begin to fret about just how much influence bank executives are having over policymakers and wonder if the Fed is tinkering with the numbers to be able to tell the markets what they want to hear. Naturally, this would have a profoundly detrimental effect on confidence, sending risky assets lower and boosting safe-haven currencies. Another bleak Non Farm Payrolls report could make matters worse, with expectations calling for the world’s largest consumer market (and source of demand for Japanese goods) to shed over 600k jobs again in April, bringing the unemployment rate to 8.9%, the highest in over 25 years.

Alternatively, it must be noted that the persistence of the recent rally could be starting to rouse investors that cashed out of risky assets in recent months as stock prices tumbled. Naturally, there is a trade-off between seeing adequate confirmation of a new bull market and getting into it at the best (i.e. lowest) possible price. There is a tremendous amount of cash now sitting on the sidelines eager to get back into the game. If April’s strong performance convinces these players that the upswing is more than just corrective and that to remain passive is tantamount to missing the boat on a tectonic shift in the market’s dominant direction, the first full week of May could see a flood of new capital pouring back into risk and boosting demand for Yen-funded carry traders, driving the Japanese unit lower.

Jamie Saettele is a Technical Currency Analyst for FXCM.