USD/JPY remains depressed below 122.00, downside seems cushioned amid Fed-BoJ divergence

• USD/JPY witnessed an intraday pullback from the multi-year peal touched earlier on Friday.
• Extremely overbought conditions prompted some profit-taking amid modest USD weakness.
• The Fed-BoJ monetary policy divergence supports prospects for the emergence of dip-buying.

The USD/JPY pair maintained its offered tone heading into the North American session and was last seen trading around the 121.70-121.75 region, down nearly 0.50% for the day.

The Bank of Japan provided a bullish signal on Friday and refrained from stepping into the markets to arrest the continuous rise in yields. In fact, the yield on the 10-year Japanese government bond (JGB) rose above the level at which the BoJ offered to buy an unlimited amount in February. This, in turn, provided a goodish lift to the Japanese yen. Apart from this, modest US dollar weakness prompted some profit-taking around the USD/JPY pair.

Spot prices witnessed a dramatic intraday turnaround and plunged over 125 pips from the vicinity of mid-122.00s, or the highest level since December 2015 touched earlier this Friday. That said, a combination of factors assisted the USD/JPY pair to find decent support near the 121.20-121.15 region. and stall the intraday corrective pullback. The Fed-BoJ policy divergence, along with a positive risk tone acted as a headwind for the JPY.

It is worth recalling that a slew of influential FOMC members, including Fed Chair Jerome Powell, left the door open for a larger rise in borrowing costs to bring down unacceptably high inflation. The markets were quick to price in the possibility of a 50 bps Fed rate hike move at the May policy meeting. This was reinforced by the fact that the yield on the benchmark 10-year US government bond stood tall near the highest level since 2019.

Elevated US Treasury bond yields attracted some USD dip-buying and further contributed to limiting the downside for the USD/JPY pair, at least for the time being. The fundamental backdrop favours bullish traders, suggesting that Friday's downfall could be categorized as a corrective pullback amid extremely overbought conditions. Hence, any subsequent slide might still be seen as a buying opportunity and is more likely to remain limited.

Technical levels to watch