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Yen Holds Gains, Carry Trade Keeps Unwinding

Reuters
WATCH LIVE

The yen held gains against the U.S. dollar and euro on Wednesday as investors kept shedding risky positions after a slide in a U.S. stock index gave a reminder that confidence in the credit market has yet to be restored.

The Dow Jones Industrial Average ended in negative territory on Tuesday even as the S&P 500 and the Nasdaq rose after Federal Reserve Chairman Ben Bernanke suggested that the central bank was prepared to lower its federal funds rate if necessary.

"Sluggishness in overseas stocks led to yen buying overnight," said a trader at a Japanese bank. "As a result, the focus will be on the Nikkei today," he said.

The Nikkei 225 Average was lower in the morning session, subduing the appetite for risk and keeping conditions ripe for an ongoing unwinding of yen carry trades,
where the low-yielding currency is used to buy assets in higher-yielding ones. 

Investors are wary of taking on risk as conditions in the commercial paper markets, a critical source of short-term funding, remain tight given ongoing turmoil in the U.S. subprime mortgage sector.

The dollar was down against the yen from late New York trade, near the day's low of 113.99 yen touched on electronic trading platform EBS in early trade. The euro was barely changed against the dollar.

Higher-yielding currencies like the Australian and New Zealand dollars remained on the back foot against the yen, with the Aussie falling against the Japanese currency and the kiwi also lower against the yen.

During a meeting on Tuesday, Bernanke told Sen. Christopher Dodd, chairman of the Senate Banking Committee, that the Fed would use "all available tools" to calm financial markets.

That initially raised expectations that the Fed may soon lower its funds rate after trimming its discount lending rate late last week.

"I asked the chairman of the Fed whether or not he was willing to use all the tools available to him, and he said he was prepared to do that. 'Absolutely,' is the language he used, and I applaud that," Dodd said after meeting Bernanke and Treasury Secretary Henry Paulson.

Richmond Federal Reserve Bank President Jeffrey Lacker poured some cold water on chances of an imminent interest rate cut, saying market turmoil only warrants a change in rates if it affects the outlook for inflation or growth.