Japanese Yen retreats as traders await Fed and BoJ monetary policy decisions

• USD/JPY extends its recovery from five-week lows as the Japanese Yen weakens.
• Improving risk sentiment reduces demand for the Yen, while the US Dollar regains strength.
• Traders brace for Fed and BoJ decisions, with both central banks expected to hold interest rates steady.

USD/JPY edges higher on Tuesday as last week’s AI-related worries subside, reducing the Japanese Yen’s (JPY) safe-haven appeal and helping the US Dollar (USD) resume its uptrend ahead of the Federal Reserve’s (Fed) monetary policy decision on Wednesday.

At the time of writing, the pair trades around 157.85 after slipping to 156.08 on Friday, its lowest level since September 18. The US Dollar Index (DXY), which tracks the Greenback’s value against a basket of six major currencies, rises to a two-week high around 102.23 after falling to 101.45 last week, its lowest level since October 1.

Analysts at OCBC note that while recent “AI concerns have eased,” the “JPY’s return as a portfolio hedge is worth watching.” They stress that “it is too early to call an AI bust,” arguing that investors will “increasingly demand stronger revenues and cash flow to justify higher capex,” but that “for now the jitters look more like noise than a sustained reversal.” In their view, “AI remains broadly USD-positive, but it is no longer a one-way USD trade.”

The Fed is expected to keep interest rates unchanged after raising them by 25 basis points (bps) in September to 3.75%-4.00%. This marked its first hike since 2023 as policymakers responded to inflation pressures fuelled by higher Oil prices amid the war in the Middle East.

With a pause widely expected, attention will centre on the policy statement and Chair Kevin Warsh’s press conference for signals on a December rate hike, which traders see an 80% chance of, according to the CME FedWatch Tool.

Data released on Tuesday offers modest support to the Greenback, with US Durable Goods Orders rising 1.8% in September, above expectations of 0.6%. However, orders excluding transportation increased 0.5%, slightly below the 0.6% forecast, while core capital goods orders slowed to 0.5% from 1.6%. Meanwhile, ADP’s four-week average of job gains eased to 16.8K from 17.5K.

Meanwhile, the Bank of Japan (BoJ) is also expected to keep interest rates unchanged at Friday’s meeting after delivering a cumulative 50 basis points (bps) of tightening earlier this year, with traders anticipating another hike in December.

Analysts at MUFG/BTMU argue that the Yen “may well struggle through this week,” with investors likely braced for BoJ Governor Ueda to adopt a more cautious tone on Friday given the global backdrop. They expect the BoJ to acknowledge that “more rate hikes are necessary,” but note that Ueda’s communication style suggests he “may not provide a strong message on a move in December that remains 80% priced.”

In MUFG/BTMU’s view, that combination of cautious guidance and already elevated expectations “could mean USD/JPY retraces further higher this week, especially if investor sentiment related to AI stabilises.”