USD/JPY Fundamental Daily Forecast – Short-Covering Continues as Investors Wager on Aggressive Fed

The Dollar/Yen is edging higher on Tuesday after data showing an unexpected pickup in U.S. services sector activity in the month of November raised the possibility of more aggressive rate hikes by the Federal Reserve.

This was on top of Friday’s data showing stronger-than-expected growth in U.S. non-farm payrolls in the month of November that triggered speculation the central bank will continue with its aggressive rate hike path.

At 07:28 GMT, the USD/JPY is trading 137.381, up 0.625 or +0.46%. The Invesco CurrencyShares Japanese Yen Trust ETF (FXY) settled at $68.19, down $1.27 or -1.83%.

Underpinned by Uncertainty over Fed Policy

A report from the Institute for Supply Management on Monday showed U.S. service sector activity unexpectedly grew at an accelerated rate in the month of November.

The ISM said its Services PMI climbed to 56.5 in November from 54.4 in October, with a reading above 50 indicating growth in the sector. The increase surprised economists, who had expected the index to dip to 53.1.

In other news, a separate report released by the Commerce Department showed new orders for U.S. manufactured goods jumped by more than expected in the month of October.

The strength in the ISM Services report combined with Friday’s red-hot non-farm payrolls report has raised doubts over when the Fed will stop raising rates and at what level. However, it is not expected to stop the Fed from raising rates by 50 basis points at next week’s policy meeting as widely expected.

These concerns are encouraging short-sellers to square positions ahead of the Fed’s interest rate decision, monetary policy statement and economic projections on Dec. 14.

Japan October Household Spending Rises for 5^th Straight Month

In domestic news, Japanese household spending rose for a fifth straight month in October from a year earlier, data showed on Tuesday, as easing coronavirus cases prompted more people to shop and eat at restaurants.

Household spending grew 1.2% in October from a year earlier, government data showed, slightly better than economists’ median estimate of 1.0%.

An improvement in consumer spending, which accounts for more than half of the economy, is seen as vital for the nation’s economic growth. Accelerating inflation, however, propelled by a weak yen amid a tepid recovery in wages cloud the outlook, Reuters wrote.

Improving Economy Not Likely to Change Bank of Japan Policy

“Consumer spending will likely stay solid within this year as normalization of social and economic activities progresses, though there is some impact from higher prices on the spending,” said Koya Miyamae, senior economist at SMBC Nikko Securities.

“We expect wages will rise to some extent next year but consumer inflation is forecast to stay around 2%,” he added. “The faster pace of inflation that that of wages will also weigh on the spending.”

Despite the normalization of inflation, wages and spending activity, the Bank of Japan is likely to maintain its ultra-dovish policy.