What's up with the yen?
STOXX 600 down 1.6%
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WHAT'S UP WITH THE YEN?
Japan's yen has been experiencing some huge moves in recent weeks, rising against a raft of currencies. Here we take a look at what's driving the rally and whether there's still room to run.
Flashback to July 11 and the yen JPY=EBS was languishing near a 38-year low at almost 162 against the dollar. Now sitting near 152 per dollar, it has gained about 6.5% in just two weeks.
"We think the trigger behind the sharp JPY rally is the market's re-assessment of the prospects of success of a soft dollar policy following President Trump's interview in Businessweek last week where he explicitly mentioned the yen," writes Deutsche Bank head of FX research George Saravelos.
There have been other factors too.
Although not officially confirmed, Japanese authorities are thought to have intervened to strengthen the currency on at least two days in the last two weeks.
Markets have also moved to fully price a rate cut from the Fed in September. Meanwhile, expectations for a rate hike in Japan next week continue to gather steam, putting the much-favoured carry trade at risk.
The carry trade involves borrowing in a low interest rate currency, in this case the yen, to invest in assets with higher yields.
"The yen-funded carry trades are seeing a sharp unwind as the market is expecting the Fed to signal a rate cut at its July meeting," writes Saxo's head of FX strategy, Charu Chanana.
When the carry trade unwinds, it can be difficult to stop, Chanana points out, especially as speculators remain heavily net short, according to data from the CFTC.
"When investors anticipate a downturn or escalating geopolitical risks, they become risk-averse and unwind these trades by selling higher-yielding assets and buying back the funding currency, in this case, the yen," Chanana says.
"This sudden demand for yen can lead to its sharp appreciation. As the yen appreciates, other traders may also decide to unwind their positions to avoid further losses, creating a feedback loop that accelerates the yen's rise."
(Samuel Indyk)
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