The USD/JPY dropped to around 149.50 during the early Asian session on Monday. The US Dollar weakened against the Japanese Yen after US PCE data indicated that the Federal Reserve is likely to cut interest rates. Traders are also waiting for additional comments from the Fed later in the day. The US Bureau of Economic Analysis reported a 2.7% rise in US PCE for August, aligning with expectations. The core PCE increased by 2.9% year-over-year. Even though the Fed aims for a 2% inflation rate, this data is not expected to change their plan for two more 25 basis point rate cuts by the end of the year. Upcoming economic reports will be closely monitored.

Political Uncertainties in Japan

Political uncertainties in Japan may negatively affect the Yen, especially with the upcoming Liberal Democratic Party elections. The election outcome could influence the Bank of Japan’s interest rate decisions if a more dovish leader is chosen. Key factors affecting the Japanese Yen include Japan’s economic performance, the policies of the Bank of Japan, bond yield differentials, and overall market sentiment. The Yen often appreciates during market turmoil since it is considered a safe-haven currency. Recent US inflation data supports our belief that the Federal Reserve is moving toward interest rate cuts. This situation is putting downward pressure on the USD/JPY pair. We suggest traders look for options that benefit from this trend, such as purchasing puts on the USD/JPY. Current market data backs this view, with the CME FedWatch Tool indicating an 87% chance of a 25-basis-point rate cut at the Fed’s meeting in October 2025. A similar scenario occurred in late 2023 when expectations of a Fed shift caused a significant drop in the dollar. History suggests that when a strong consensus forms, the initial movement can be quick.

Significant Risk Factors

However, the leadership election in Japan on October 4th poses a major risk that could weaken the Yen. A dovish leader might postpone the Bank of Japan’s rate hike plans, which could support the USD/JPY pair. This conflict in central bank policies makes clear directional trades particularly risky in the near term. Given these opposing factors, we recommend strategies that profit from significant price movements, regardless of direction. Implied volatility on USD/JPY options is currently low, making strategies like long strangles appealing to trade the expected market shifts. This approach allows traders to benefit from price swings after either the Fed’s announcement or the Japanese election results. The main factor continues to be the yield difference between US and Japanese government bonds. The gap between the US 10-year Treasury, now at 3.92%, and the 10-year Japanese Government Bond at 0.95% is expected to narrow as the Fed cuts rates. A dovish surprise in Japan could slow this narrowing, but the primary trend of a weaker dollar should ultimately dominate. Create your live VT Markets account and start trading now.

here to set up a live account on VT Markets now