FACED with the lowest interest rates in the G10, even the Japanese are abandoning the yen. In search of higher yields and better growth prospects, they are looking overseas to higher-yielding assets in emerging markets and piling in to Toshin funds, which allow retail investors to invest in high-yielding currencies. This week an estimated ¥3.9bn of these funds will be offered to the public, of which more than 80 per cent is directed at emerging markets such as Brazil.
As evidence of Japanese investors’ lack of faith in their own currency, the take-up is expected to be huge. The subscription rate since the start of February has been a record 26 per cent, well above the average for the past six months of 10.5 per cent. This could put downward pressure on the currency.
BNP Paribas FX strategists agree that this week’s large Toshin issuance is likely to keep the yen weak in the near-term. While there is a chance that renewed bouts of investor uncertainty could boost the yen – it has the highest positive correlation with risk aversion – they view pullbacks in the dollar-yen pair towards ¥91 as renewed buying opportunities with a target of ¥93.
From a technical perspective, the failure of dollar-yen to break above the 200-day moving average at ¥92.25 has resulted in a pullback towards the ¥90.80 support level, says CMC Markets’ Michael Hewson. A break through the moving average would result in further dollar gains and a possible test of the January highs at ¥93.75.
Looking ahead, the picture doesn’t get any brighter. The Bank of Japan is likely to have to step up quantitative easing when other central banks are considering exit strategies. This ultra-loose monetary policy is expected to keep the yen weak, as is the ongoing disagreement between the central bank and the Ministry of Finance about which body will lead the fight against deflation.
Both of these issues will create a negative environment for the Japanese currency.
But a weaker yen doesn’t mean we can assume a return to the yen carry trade environment that characterised 2006. No longer can traders blindly sell the yen against any currency and expect a profit. Currencies Direct’s Mark O’Sullivan says that traders will have to be a little more choosy about which pairs to trade. For example, he thinks the yen will actually do well against the euro and sterling this year because their economies are still struggling. In contrast, he advises selling the yen against the Australian and New Zealand dollars, whose economies are expected to outperform. In terms of dollar-yen, it should strengthen in the first half but nervousness surrounding the US mid-terms in November will benefit the yen.
Given the yen’s correlation with risk aversion, traders should look out for a serious crisis, which would see investors pile in to safe-havens like Japan.
As the world economy awakes from recession, the sun is setting on the yen.