Japanese yen trade mystifies and could penalize

Published Thu, Apr 7 20162:31 PM EDT

Patti Domm @in/patti-domm-9224884/@pattidomm

The yen's rapid rise against the dollar has been so mysterious that the experts are having a hard time predicting its next move. Since the Fed's March meeting, where the central bank signaled a slow road to higher interest rates, the dollar has fallen more than 5 percent against the yen. On Thursday, the dollar's value against the Japanese currency skidded to a key target of 108 yen. That was a level some strategists were citing as the next stop after it smashed through 110, an important milestone that gave way just Wednesday. Central banks have been catalysts for some of the moves in currency markets, but the fact that the yen is gaining so much strength when Japan has negative yields and a sluggish economy is perplexing. A "convincing explanation of the yen's strength seems elusive," wrote Marc Chandler, chief currency strategist at Brown Brothers Harriman. "This is a bit of a quandary," said Robert Sinche, global strategist at Amherst Pierpont. "Rate spreads haven't really shifted all that much in favor of the yen. The specs are already long and this is the time of year, early April, when you usually get some capital outflow from Japan as the new fiscal year starts. They put on new positions and buy some foreign assets. It's hard to figure out what's driving it." Read More One currency dictating market's direction But there are some explanations for the yen rally and where it could be headed. Chandler said one explanation for the rise is that portfolio flows have been leaving Japan in an era of negative yields. "The Japanese have been buying huge amounts of foreign bonds, and foreigners are selling Japanese stocks," said Chandler. He also notes that the main buyers of yen appear to be speculators, who have amassed a near-record long position. The yen's gains have paralleled a sharp fall in the U.S. 10-year Treasury premium over Japan, which peaked March 22 near 204 basis points, Chandler pointed out. Now it is below 180. Chandler said his technical objective for the dollar is the 106.80/107 yen level. The 106.80 level is near a 38.2 percent retracement from the high in yen. Sinche is also looking at the 38.2 percent retracement level, but he says there's also another clear point on the chart — 105.50 — that could be a resistance point. "It was a resistance high in January 2015. To me 105.50 looks like it's a more important level," he said. Sinche also said the yen's strange move has made it tougher for technical analysts. "We know this one has been so influenced by policy shifts on both sides and BOJ purchases, you wonder whether the technicals are as well defined as you might normally see. It's really hard to find technical levels here. It's not like, in my view, you had some big levels broken that suddenly generated this move." Read More Markets playing dangerous game with this pair But if the dollar does rally to where the yen is at 105.50, the door could open to a more challenging — and dangerous — level for the currency. Said Sinche: "105.50 is going to be tough for the Japanese to swallow.They don't want this thing to go anywhere near 100, because if it goes to 100 it can keep running." He said the Japanese economy can ill afford a strong currency since the latest readings show manufacturing has stopped contracting in the U.S., China, India but PMI data continue to show contraction for Japan. Besides being hard to explain, the yen's behavior is abnormal in other ways, and it appears to be trapped in a momentum move. "You would expect this move into yen when equities markets are collapsing. They are not," Sinche said. "Is this normal cyclical behavior or is there something going on in the background?" Chandler expects that Japanese and U.S. officials have been surprised by the move, and it is not likely "engineered." He also sees a high bar for the Japanese to intervene, with both G-7 and G-20 members reiterating a pledge not to seek competitive advantage from the currency market. Deutsche Bank G-7 currency strategist Alan Ruskin wrote: "For Japan, as JPY strength reinforces Nikkei weakness, this currency peace must already feel more like a new front in the old currency war." One theory may explain it. "Could China be encouraging some of these moves? They don't want to let dollar/China move that dramatically because they know it causes dislocations in global markets but nobody seems to care if the Chinese currency weakens against the yen or euro, and that's where their concerns are — in the trade-weighted currency," said Sinche. In his note, Ruskin said the Chinese yuan and the yen are transitioning back into an old range, after a period were the yen depreciated notably. "China's gain ... could not come without Japan pain!"

The yen's rapid rise against the dollar has been so mysterious that the experts are having a hard time predicting its next move.

Since the Fed's March meeting, where the central bank signaled a slow road to higher interest rates, the dollar has fallen more than 5 percent against the yen. On Thursday, the dollar's value against the Japanese currency skidded to a key target of 108 yen. That was a level some strategists were citing as the next stop after it smashed through 110, an important milestone that gave way just Wednesday.