E euro-dollar has taken all the spotlight recently, the yen quietly made a fresh post-war high against the dollar with dollar-yen dropping into the ¥75.00s last week. The move has elicited further cries of frustration from Japanese officials and some head scratching from speculators.
The downward move in dollar-yen is especially surprising given the relatively upbeat recent economic data from the US. In contrast to Europe, latest measures of US economic activity show that consumer demand has picked up and the labour situation remains stable. The much feared double-dip recession is nowhere in sight. Yet this uptick in economic performance is not reflected in US bonds, as yields remain low, weighing on the dollar-yen pair.
The main reason for this weakness in US rates is the persistently dovish rhetoric from US monetary officials. Last weekend, Fed vice chair Janet Yellen intimated that she was open to the possibility of QE3, stating that: “Securities purchases across a wide spectrum of maturities might become appropriate if evolving economic conditions called for significantly greater monetary accommodation.” On Monday, New York Fed president William Dudley echoed those sentiments stating that: “It’s possible we can do another round of quantitative easing.” Such talk has clearly affected the currency markets as traders fear further dilution of the dollar.
Japanese officials are becoming increasingly concerned with this price action. Last Friday, finance minister Jun Azumi told reporters that the yen’s move was “an absolutely speculative movement and did not reflect economic fundamentals at all. If this becomes excessive, we must take decisive steps in the currency market.”
Although I sometimes joke that – short of Japan defaulting on her own sovereign bonds – nothing will stop yen strength, I think it would be dangerous to test the mettle of the Japanese authorities this week. If dollar-yen drops through the ¥75.00 level, intervention is sure to follow. Despite its recent ineffectiveness, the Japanese will have no choice but to step into the markets to protect their export sector. That’s why shorting the pair at these levels is fraught with danger.