The fundamental bearings for the Japanese yen are unmistakable. Any way you cut it, this currency is the best funding currency for carry trade interest. Interest rates are near zero and expected to stay that way for the foreseeable future. What’s more, high national savings increase the availability of capital overall. However, things get sticky when you are steeped in a broader risk aversion trend. There is still considerable carry interest that can be unwound and therefore push the yen higher. Yet, when the speculative portion of these funds have already been largely divested, the bullish argument for further appreciation breaks down. While the US dollar can stand as a safe haven when its carry flow reversal runs dry; the downgraded credit outlook for Japan, an ongoing deflation scenario and struggle with growth mean this currency is lacks the fundamental qualities for a buy. Though, when such a balance is met is difficult to tell. The sheer level of carry interest is hard to quantify; but it is nonetheless very large.
Through the short-term at least, I expect the yen to maintain its place as funding currency – against most of its counterparts. The exception is USDJPY which has already started to break from the conventions of carry. Over the past 12 months, both currencies were used to fund the carry trade; and each is seeing the effects that an unwinding of this position can have. In effect, this negates much of the drive this prominent fundamental concern has on the entire market. Yet, when momentum behind risk appetite or risk aversion hits accelerates, the greater interest behind the yen becomes more evident. Alternatively, when the trend in sentiment is relatively mild, truer fundamentals start to take over. Background fundamentals (rates, growth, fiscal policy) support the US dollar between the two; and eventually the risk interest will balance out. This produces a long-term bullish opportunity for USDJPY. I am fully interested in building up such a position; and will establish a reduced position around 89 and further down at 87 (if we pull back to this area). A full size position will be taken when the 200-day SMA is overtaken. In the meantime, the opportunities among other yen crosses are relatively limited. GBPJPY is at the bottom of a five-month descending channel; but a bearish break is possible. Along similar lines, AUDJPY has tested a relative support at 80 (the confluence of a 200-day SMA, 50 percent Fib and pivot); but here too a break is a high risk probability.
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