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Writer's pictureWarren De Mills

GBPJPY Fundamental Analysis (May 2021)

GBPJPY Trade Idea

The United Kingdom's economy is set to rise and recover from the Corona Virus, making it one of the first advanced economies to begin its road to recovery.


However, in Japan, cases are still rising among a population protesting the hosting of the Olympic games.


With the prospect of limited tourism due to either a tightly managed Olympic games consisting of athletes from just a few countries and only their coaching staff, or a further postponed Tokyo Olympics on the horizon for Japan, will the pound rise with economy while the Yen continues its precipitous decline?





Fundamental Summary


Macro Currency Strength Meter - Neutral with Bullish potential



Our Macro currency strength meter indicates significant weakness in the Japanese economy. This indicator has been trending aggressively downward for the last three weeks, making it easy to pair the Japanese Yen against any strong economy for a Macro-Economic divergence trade.


However, Whenever a country's economic data begins falling off as aggressively as this, it usually precedes action from the powers that be. Central Banks and governments usually take action. This could potentially be a headwind against any trade made with a bearish bias against the JPY.


Looking at the Sterling, we can see a consistent neutrality in the Macroeconomic scores for the UK for the third week. This indicates that it can go either way in the future, however it is increasing ever so slightly. Compared to the falloff seen with the JPY, even with negative scores in the future, relatively, the Sterling will remain stronger on our macro strength meter for some time.


We want to see further strength in the in the UK's Macroeconomic strength over time to further support this trade over the next few months.


GDP Differential Indicator - Bullish



The GDP of both nations is seeing recent downward pressure after a massive recovery out of the GDP fallout of 2020.. However projections remain positive and leading economic indicators suggests a positive outlook for the Pound Sterling.


Coupled with the fact that the differential is already at a favorable bias towards the UK suggests that a bullish bias on the GBPJPY would be the right position to have.


If we look at the Latest World Economic Outlook Growth Projections chart from the IMF, we can see some interesting divergence.


In 2020, the UK GDP Fell far lower than Japan's, however in 2021, the expected growth is much higher. What is also interesting is that that bias continues into 2022 with Japan's growth rate expected to be at just 2.5% while the UK's is expected to be at 5.1%.


We are expecting massive GDP strength in the UK and slowing GDP strength in Japan over the next 2 years. This further supports our Bullish bias on the Pound Sterling, and our Bearish bias on the Japanese Yen.






Corona Virus & Economic Activity


Comparatively, Covid-19 cases are rising sharply in Japan while it seems to be topping off and slowing down in the UK. Ahead of the Tokyo Olympics scheduled for this year, Residents have been protesting against hosting the games. However, the government of Japan would still want to host the Olympics hoping for a rise in economic activity.


At the moment, even if the games are on, it will be at limited capacity with few if any, international spectators. It won't be the economic boost that most countries experience when hosting the games. If the games get postponed again or canceled, there will be no dramatic rise in economic activity.


On the flipside, the UK is beginning to open up its economy and all leading economic indicators are beginning to trend upward even as they are seeing a flattening in the curve of their Covid-19 infection rate.





The UK Remains one of the most vaccinated nations in the world with a very aggressive rollout plan scheduled for the summer as well. The UK has successfully vaccinated over 70% of its adult population






We can see in the data below that sentiment is positive towards economic activity in the UK while it is declining in Japan ahead of the Olympics.





Summary: With aggressive vaccination and an already opening economy the UK seems aimed at meeting those positive GDP growth projections. On the flipside, Japan's growth seems uncertain. This supports our Bullish bias for the GBPJPY trade.

However, the UK is racing against the emergence of the Indian variant of the virus. This will be something to look out for as an uptick in infections through this variant may have some unforeseen consequences and affect our optimistic outlook on the British economy.


Trade Analysis - Bullish



The UK is the world's 2nd largest exporter of gold. We can see an inverse correlation over extended periods. Particularly as if we pay attention to directional trends. If you are bearish on Gold, it would be great to be bullish on the GBPJPY pair. This supports our Bullish bias as we see that gold is in a downtrend at the time of writing. However, gold is also gaining upward momentum at the moment as well. Something to look out for.



Oil is one of the UK's largest exports while it is Japan's largest import. We can see that oil prices and GBPJPY prices tend to trend together however this correlation seems to be over very long time durations and it does not seem to be very consistent. At the moment they are both trending upward



Japan's largest export is cars and car parts with the largest Japanese car company and the largest car company on the whole, being Toyota. Therefore we compared Toyota's share prices with the price of the GBPJPY. We do see some longer term correlations. These prices do trend together and they are both trending upward. This supports our Bullish bias for GBPJPY.


Interest Rate Differentials - Bullish


Japan has maintained a negative interest rate since 2016 and the Bank of Japan has recommitted itself to hold on to this policy beyond 2023. Any currency therefore would see a positive bias in interest rate differentials with the JPY, even in the current low interest rate environment we are in globally.


The bank of England however has stated plainly that it does not intend to tighten their interest rates unless they are able to sustainably hit their 2% inflation target. At the moment, inflation is at 1.5% with further growth in economic activity expected.

This data supports our Bullish bias on the GBPJPY pair.



Domestic Stock Market Analysis - Bullish




The FTSE 100 is seeing some sideways consolidation coming making both lower highs and higher lows. This could be due to a rise in the value of the GBP. This chart suggests overall neutrality for the GBP however, if price breaks above resistance, retests it and continues trending higher, then it would be a bullish signal on the GBP.



Unlike the FTSE100, the Nikkei 225 has begun trending downward and is already retesting previous support and falling from those levels. This is a bearish signal for the JPY and supports our bearish bias on that currency.

FTSE = Neutral with Bullish potential

Nikkei = Bearish with further bearish potential

Our stock market analysis supports our long position on the GPJPY pair.

Hedge Fund Positioning




Hedge funds have been slowly adding to their short bias against the JPY while also maintaining a bullish bias on the GBP. This week we have seen the net positioning go down slightly on the GBP, but the spread between them has gotten wider as bearish sentiment increased more dramatically on the JPY.


With the analysis we've done so far, we can expect further CoT support over the coming weeks. The current CoT data does support our bullish bias on the GBPJPY pair. Any further activity on the CoT report should be monitored to either add to our conviction or to scale back.


Price Trends



On the daily chart, we can see strong support levels. However as price broke above previous resistance, we can see a contraction in volatility. This suggests that price may fall at least to the previous resistance to test it as support. That may present an opportunity to begin accumulating positions.





Price is already trending upward on the weekly chart. It also seems to be breaking and retesting significant levels.



On the monthly chart we can see that there is significant room on the upside, especially if the next resistance level is broken and retested as support.


Price levels and technical analysis = Bullish on GBPJPY supporting our trade and fundamental analysis.


Disclaimer

This article is not investment or trading advice. Please seek guidance from a professional who considers your personal circumstances.

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