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Why The Yen Refuses To Fall
Perspective | 06 June 2013
By: Kathy Lien
Articles (9) Profile

This article is written by Kathy Lien, Managing Director of FX Strategy at BK Asset Management

Selling the Japanese yen was supposed to be one of the best trades of 2013 and it has been up until now. Since the beginning of the year, the Japanese yen lost as much as 20 percent of its value against the US dollar. It rose above 90, 95 and then 100 but stalled at 103.75. After hitting that high on 22 May, the currency pair reversed course leading many investors to wonder why the yen refuses to fall when the Bank of Japan (BoJ) has promised to buy bonds aggressively. Over the past week, we had a number of developments that should have driven the yen higher from the BoJ’s threat to increase the frequency of bonds purchased, the announcement of forex margin changes by the government and a report by Reuters that said the Government’s Pension Investment Fund may not increase its exposure to foreign bonds.

However in order for the yen to weaken, money needs to flow out of Japan and that is just not happening. The Ministry of Finance releases a weekly report on the flow of investment in and out of Japan. According to the latest one, Japanese investors sold more than 1 trillion yen worth or foreign bonds, which was the second largest one week dump in the past year. This follows a week where the Japanese sold more than 800 billion worth of foreign bonds, undoing all of the buying that occurred the three weeks prior. With US 10-year bond yields topping 2 percent, why aren’t the Japanese buying?

One explanation is that they are repatriating their foreign investments, which may have increased in value and parking them in savings accounts or recycling them back into the Nikkei. Japan has an aging population and Mr. and Mrs. Watanabe aren’t getting any older. With the yen weakening so significantly, they may view this as an opportunity to repatriate their earnings at the best rate since 2009. To clarify this further, if Mrs. Watanabe had 100,000 US dollars sitting abroad, she can convert that now to more than 10 million yen based on exchange rates alone. This time two years ago, the same 100,000 would only be worth about 8 million yen. Most investors also like to invest in their local stock markets and up until two weeks ago, the Nikkei seemed to be a good bet as it rose to its highest level in 5 years. So while Bank of Japan (BoJ) policies are aimed at weakening the yen and rising yields abroad should make foreign assets more attractive, the Japanese continue to sell their foreign holdings to bring their money home.

Eventually, this trend will change because it will become too tempting for the Japanese to ignore rising US yields. The Bank of Japan has committed to keeping Japanese government bond (JGB) yields low so it shouldn’t be rising above 1 percent anytime soon. Whereas the US Federal Reserve is gearing up to dial back asset purchases, which should drive US 10 year yields even higher. The Japanese are very savvy investors and when they see that US monetary policy is supporting the dollar and Treasury yields, they may start to reconsider their investment plans. However in order for that to happen, the Fed needs to make it very clear that they are taking action that would drive the dollar and yields higher.

In general, three underlying changes need to occur for the yen to resume its slide. US 10-year bond yields need to break 2.5 percent, making the return too attractive to ignore. Global equities need to recover and extend to new highs, bolstering Japan’s appetite for risk and finally, we need to see the Ministry of Finance’s weekly portfolio flow data to show that Japanese investors have stopped selling and have started buying foreign bonds in size.

Kathy is a well-known expert in the Forex world and has over 10 years of trading experience in the forex market. She is frequently seen and quoted on international media platforms such as CNBC.

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