The Japanese Yen has weakened against the US Dollar as the USD/JPY rises, driven by higher US Treasury yields and a stronger Dollar. The pair is trading around 156.70, showing an increase of nearly 0.23% on the day, despite earlier softer US Purchasing Managers Index data.
The US Dollar Index is roughly at 98.53, after dipping to a daily low of 98.16. December’s US Services PMI dropped to 52.5 from 54.1 in November, while the Composite PMI decreased to 52.7 from 54.2, indicating slower growth in both services and manufacturing sectors.
Dollar Recovery and Market Anticipation
While the Dollar has shown some recovery, its overall outlook is still uncertain, with markets anticipating two Federal Reserve rate cuts this year. The Fed is expected to maintain current interest rates at its late January meeting, with an 85% probability of no change as shown by CME FedWatch.
Attention is on US-Venezuela relations following recent military actions. Any further military developments may increase safe-haven appeal for the US Dollar. The Bank of Japan is anticipated to raise rates as economic conditions and inflation improve, which might strengthen the Yen’s position.
Looking back at the analysis from last year, we can see the core tension between a strong dollar and a weak yen was already well-established around the 156.70 level. The primary driver was the wide gap between US and Japanese interest rates, a theme that continues to dominate our thinking. This fundamental divergence remains the most important factor for the currency pair moving into the first quarter of 2026.
The Case for Continued Dollar Strength
The case for continued dollar strength has been reinforced by recent data that was not available this time last year. The latest Nonfarm Payrolls report for December 2025, released just days ago, showed the US economy added a robust 210,000 jobs, handily beating expectations. This strong labor market makes it difficult for the Federal Reserve to justify the aggressive rate cuts that some had priced in during 2025.
As a result, we see US Treasury yields holding firm, with the 10-year note hovering around 4.2%, providing attractive returns relative to other major economies. Furthermore, the most recent core inflation data from late 2025 printed at 3.5%, which is still significantly above the Fed’s 2% target. This persistent inflation supports the view that the Fed will remain cautious, keeping rates higher for longer.
On the other side of the trade, the Bank of Japan did follow through with a minor rate hike in 2025, but the policy rate differential remains vast. This makes holding yen unattractive and encourages carry trades, where traders borrow yen to invest in higher-yielding dollars. While we must remain vigilant for verbal or physical intervention from Japanese officials if the yen weakens too quickly, such actions have historically provided only temporary relief.
Given this backdrop, we should consider strategies that profit from further USD/JPY strength in the coming weeks. Using derivatives, we can express this view by buying call options to capture potential upside beyond current levels, perhaps targeting a move toward the 158.00 mark. Selling out-of-the-money put options is another viable strategy to collect premium while expressing a bullish-to-neutral stance.
The geopolitical risks highlighted last year, particularly concerning Venezuela, have since subsided but serve as a useful reminder. Any unexpected global instability would likely trigger safe-haven flows into the US dollar, further supporting our long USD/JPY position. We will continue to weigh the strong US labor and inflation data against any signs of economic slowing, like the weaker PMI figures noted in 2025.
