USD/JPY trades with modest gains around mid-109.00s, upside seems limited

• A combination of factors assisted USD/JPY to gain some positive traction on Tuesday.
• Recovery in the equity markets undermined the safe-haven JPY and remained supportive.
• Rebounding US bond yields acted as a tailwind for the USD and provided a modest lift.

The USD/JPY pair traded with a mild positive bias heading into the European session and was last seen hovering around mid-109.00s.

The pair edged higher on Tuesday and is now looking to build on the overnight bounce from the vicinity of the 109.00 mark, or near two-month lows touched in the previous session. The USD/JPY pair, for now, seems to have stalled its recent sharp pullback from YTD tops, around the 111.65 region and was supported by a combination of factors.

A goodish rebound in the US equity futures turned out to be a key factor that undermined demand for the safe-haven Japanese yen and extended some support to the USD/JPY pair. Bullish traders further took cues from a modest bounce in the US Treasury bond yields, which acted as a tailwind for the US dollar and remained supportive of the uptick.

That said, any meaningful positive move still seems elusive amid growing market fears that the fast-spreading Delta variant of the coronavirus would harm the global economic recovery. Adding to this, diminishing odds for an imminent Fed action in the near future might act as a headwind for the greenback and collaborate to cap gains for the USD/JPY pair.

In fact, the Fed funds futures showed the chances of a quarter-point hike in December 2022 fell to 58% on Monday from 90% on July 13, while the likelihood that the Fed raises rates in January 2023 dropped to 70% from 100% last Tuesday. Adding to this, the spread between 10-year and 2-year yields remained near February lows, signalling doubts about the growth outlook.

There isn't any major market-moving economic data due for release from the US on Tuesday, leaving the USD/JPY pair at the mercy of the broader market risk sentiment. This further makes it prudent to wait for some strong follow-through buying before confirming that the USD/JPY pair has bottomed out in the near term and positioning for any further appreciating move.

Technical levels to watch