USD/JPY extended a modest pullback from the 159.85 area and moved lower in Asia on Tuesday. It fell to near 159.00, with limited follow-through downside due to mixed drivers.
US-Iran peace talks failed over the weekend, yet markets still expect diplomacy to continue. US Vice President JD Vance said meaningful progress has been made, and this weighed on the US dollar.
Dollar Pressure From Policy Uncertainty
The US dollar also hit its lowest level since early March amid uncertainty over US inflation and Federal Reserve policy. US data released on Friday showed inflation rose by the most in nearly four years, shifting attention towards possible rate rises this year, while some rate-cut expectations remain.
The yen found limited support due to concerns over energy shocks linked to instability around the Strait of Hormuz. US President Donald Trump said a US Navy blockade has officially started and said Iranian warships approaching would be destroyed, while Iran threatened ports in the Persian Gulf and the Gulf of Oman.
Japan relies mainly on Middle East oil imports, raising concerns about economic strain in the near term. This may limit yen strength and restrict deeper USD/JPY declines, while talk of Japanese official action could also cap further yen weakness.
Looking back at the situation in 2025, we saw the dollar soften on hopes of US-Iran diplomacy, while the yen was weakened by energy security fears. This created a limited trading range for USD/JPY, as both currencies faced significant headwinds. The fundamental landscape, however, has shifted dramatically over the past twelve months.
Energy Shock And Market Aftereffects
The US naval blockade in the Strait of Hormuz last year caused a severe energy shock, with Brent crude prices briefly spiking above $145 per barrel. While diplomatic channels have since eased the immediate crisis, oil prices remain elevated, with WTI currently trading around $95, keeping pressure on energy importers like Japan. This sustained high cost of energy continues to act as a major weight on the yen.
In response to the inflation surge of 2025, which saw the Consumer Price Index peak at over 7%, the Federal Reserve was forced into a much more aggressive stance than traders anticipated. The Fed has since raised the federal funds rate to 6.00% to combat these persistent price pressures, which were last recorded at 4.1% for March 2026. This high interest rate environment provides strong underlying support for the US dollar.
Consequently, the USD/JPY pair is now trading near 162.50, far above the levels discussed last year. While the Bank of Japan finally exited its negative interest rate policy, its current rate of 0.10% creates a vast and attractive interest rate differential for holding dollars over yen. This carry trade remains the dominant force driving the pair’s strength.
For the coming weeks, traders should consider strategies that capitalize on this high interest rate differential while being mindful of verbal or actual intervention from Japanese authorities. Selling out-of-the-money JPY call/USD put options is a viable strategy to collect premium, betting that the pair will not see a sharp reversal below key support levels. Alternatively, bull call spreads on USD/JPY could offer a defined-risk way to profit from further upside toward the 165.00 level.
