Currency weakens despite warning from top Japanese foreign exchange (FX) officials
- The Japanese yen is falling despite warnings from officials.
- Intervention risk is present as the exchange rate nears 160.
- Traders who want to participate in a possible intervention rally should monitor price action.
The Japanese yen (/6JU4) is trading near its lowest level since 1990. In fact, it’s s low as it was when Japanese authorities intervened in the market, bringing back the risk of another currency intervention.
Traders seem unfazed over the last couple of weeks despite those intervention risks. Now, however, policymakers are stepping up their warnings. Vice Finance Minister Masato Kanda told reporters overnight that “we won’t comment on day-to-day currency moves as such comments could give the market unforeseen effects, but we are always ready to take appropriate action when there are excessive moves.”
The warning from Japan’s top currency diplomat did little to dissuade yen bears, who pushed the currency lower overnight. The exchange rate against the dollar hovered just below the 160 level, which is seen as a possible line in the sand for the Ministry of Finance (MOF), although it may be as high as 165.
Central bank policies keep U.S. bond premiums elevated vs. Japan
The recent price action stands in stark contrast to forecasts from earlier in the year when many analysts, myself included, saw the yen strengthening this year. That hasn’t materialized. The U.S. Federal Reserve hasn’t cut interest rates at the pace the market expected earlier this year, contributing to a widening yield gap between the United States and Japan.
Japan has also been slow to hike interest rates, deepening the yield gap between the two nations. The U.S. 10-year yield commands about a 325-basis-point premium vs. its Japanese counterpart, and while that is the lowest since February, it is higher than where we started the year.
Trading the yen amid intervention risk
Japan spent $61.3 billion in its currency intervention from late April to late May—a period when there were likely two separate instances of intervention. Markets expected that intervention but the timing was hard to nail down.
Many traders now see the intervention risk somewhere between the 160 and 165 exchange rate levels. For yen futures, that would be between 0.0063 and 0.0058. That said, the yen’s volatility will likely increase in this price range as traders become skittish because of intervention risks.
Despite the recent losses, there still isn’t a great amount of volatility priced into Japanese yen futures contracts, complicating an approach to trading the currency if you believe it won’t drop below 0.0058. Instead, traders who want to take a long side to participate in a potential intervention rally will have to stay nimble and monitor price action to capture any swings in the currency.
Thomas Westwater, a tastylive financial writer and analyst, has eight years of markets and trading experience. @fxwestwater
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