Japanese Yen Struggles As Fed Rate Hike Bets Drive US Yields Higher

USD/JPY extends its advance for a fifth consecutive day on Thursday as broad US Dollar (USD) strength and persistent pressure on the Japanese Yen (JPY) keep the pair firmly supported. At the time of writing, USD/JPY changes hands near 158.80, having clawed back most of the decline seen earlier this month from levels near 160.

The rebound comes as traders assess the monetary policy outlooks of the Federal Reserve (Fed) and the Bank of Japan (BoJ) following their September meetings. Markets see a growing chance that the Fed will raise borrowing costs again after delivering a 25-basis-point (bps) increase last week, which lifted the federal funds rate to 3.75%-4.00%.

Strong US data has supported the hawkish outlook. The S&P Global Composite Purchasing Managers’ Index (PMI) climbed to a five-year high of 58.4 in September, while Initial Jobless Claims fell to 197K, below expectations of 201K. The previous claims figure was revised higher to 198K from 196K.

US Dollar and Treasury yields extend their advance in response, with the US benchmark 10-year yield trading around 5.16%, its highest level since 2007. The US Dollar Index (DXY), which tracks the Greenback’s value against a basket of six major currencies, trades around 101.25, near its highest level since July 29.

However, the bond sell-off is not driven by monetary policy alone and is not limited to the United States (US). Higher Oil prices are lifting inflation expectations across major economies, while heavy government borrowing and fiscal concerns add upward pressure on long-term yields.

Japanese bond yields are also climbing, with the 10-year Japanese Government Bond yield reaching around 3.08% on Thursday, its highest level since August 1996. However, the rise offers limited support to the Yen as the yield gap with the US remains wide.

The BoJ raised its policy rate by 25 bps to 1.25%, its highest level in 31 years, but two dissenting votes and limited guidance on future hikes prompted traders to view the decision as slightly dovish. Elevated Oil prices also increase Japan’s import costs, creating another headwind for the Yen.

On the geopolitical front, Reuters reported that the US and Iran are discussing a phased plan to end the war. The first stage could involve Iran reopening the Strait of Hormuz in exchange for Washington lifting its economic blockade, with Tehran possibly receiving access to frozen assets.

A meaningful agreement could push Oil prices lower, ease inflation concerns and offer some relief to Japan’s energy-importing economy. For now, the hawkish Fed outlook keeps USD/JPY tilted higher, although the threat of intervention could return as the pair approaches 160.