Friday's US CPI print showed an unexpected YoY jump to 8.6% in May, extending April's 8.3% consumer price inflation rise. The accelerating increase in prices is pushing the Federal Reserve into the corner regarding how to control hotter inflation.
Indeed, it may provoke the already more hawkish US central bank to become even more aggressive about raising interest rates at their next meeting later this week, after policymakers increased the benchmark interest rate in May by half a percentage point, the steepest hike in 22 years.
Other global central banks are also in hiking mode: the European Central Bank will hike rates in July for the first time in 11 years while the Bank of English is on track to increase its interest rates for the fifth time since December, its steepest streak of rate rises in 25 years. Economists expect the UK central bank to keep raising rates in the coming months.
Not only have European central banks been raising borrowing costs. The Bank of Korea raised its benchmark rate for the second time on May 26.
Conversely, however, the Bank of Japan remains anchored to its ultra-loose policy, namely, it is keeping rates at zero. The central bank has even maintained its pledge to keep expanding its balance sheet to support the market if required.
All of this hiking activity has had the effect of boosting the US dollar which today gained, once again, for the fourth day in a row, nearing its highest levels since 2002. Concurrently, the Japanese yen has been tumbling.
The currency is now at a 24-year low on the ever-widening divergence in monetary policy between the US and Japan. Is there additional weakness ahead for the JPY?
The dollar-yen pair just touched 135.00 for the first time since February 2002 and is now within 0.01% of their highest levels seen since October 1998.
However, the price retreated and has developed a doji, the third one in a row. A doji is a candle that demonstrates a sense of confusion among traders and even fear. Though traders might rush to and fro as they hastily buy and sell, ultimately the price closes little changed, in a marked display of lack of market leadership.
As such, a single doji—much less three in a row—can signal a reversal. It's a sign that the market is tired.
To be clear, it isn't a sell signal. Rather it adds evidence for forming a market opinion.
Given that provision, we'd seek additional evidence—for example, falling volume creating a negative divergence to the price. To that end, the RSI is now demonstrating overbought conditions. Plus, the ROC, which is a measure of momentum more sensitive than the RSI, is already curving lower.
A long red candle would be the final confirmation for a short-term decline signal.
Trading Strategies
Conservative traders should wait for a long red candle that would erase gains made from the previous long, green candle, registered on June 8. Then, they'd wait for the price to retest resistance before committing to a short position.
Moderate traders would wait for the same price action as more cautious peers but be content with a corrective dip for an entry closer to the stop-loss, if not for further confirmation.
Aggressive traders could risk a short sooner, preferably after a close that would confirm the doji if they are willing to accept the increased chances for losses, commensurate with the odds for higher rewards, than their more patient competitors.
Sound money management is as important as a coherent analysis. Here is a generic example:
Trade Sample – Aggressive Short Position
- Entry: 135.00
- Stop-Loss: 135.25
- Risk: 25 pips
- Target: 134:00
- Reward: 100 pips
- Risk-Reward Ratio: 1:4
