The market is heavily long the EUR/JPY but the upside from here is limited and a major break lower is expected. Our logic of the trade in the enclosed article...

The Interest Rate Outlook

The market is looking for ECB to raise interest rates again in September and the Bank of Japan to continue with their ultra easy monetary policy - the market views this scenario as bearish for the JPY but the problem for the bulls is the good news is priced in for the EUR and speculators are heavily long.

“Given current expectations of the ECB being slightly more hawkish than the Fed, and given FX positioning (long EUR), the EUR/JPY can fall a lot faster than it can rise from here, even if there is a good chance of nothing much happening.” (SOCIETE GENERALE)

Their view is the same as ours however we think we will get a breakdown shortly and the key levels to watch are on the chart later in the article. If we look at speculative positioning in the options market we can see how long the market is of EUR/JPY.

Sentiment 

A similar long EUR/JPY position exists in both the futures and cash markets which makes these positions vulnerable to a stop hit if speculators start to get hit on stop.

Economic Outlook

At present the market sees possibly one more hike of 25 bps from the ECB which is down from possibly two before the meeting. As we have noted in our recent article on EUR/USD we think the ECB has finished hiking rates as the economy looks set for a long and deep recession.

If we look at leading indicators in Eurozone and Japan the Japanese economy is holding up better than the eurozone and the Bank of Japan, could tweak yield curve control at any time. This fundamental backdrop as well as extreme long EUR/JPY positioning has us looking for a breakdown.

Technical Analysis

The key levels of support and resistance in our view to keep in mind are on the chart below.