Forex features – safe haven currencies – the JPY

Recent concerns about the eurozone have resulted in funds being directed to the Japanese Yen, which is considered to be a safe haven. The reasons why this is so remain unclear – Japan’s economy is not in good shape, and when compared to the CHF, the JPY isn’t doing very well. The popular theory is that, in times of economic strife, investors unwind their carry trades, which lends strength to the JPY.

Economic fundamentals

The JPY has been one of the world’s weakest performing currencies in 2011, with a 3.7% contraction in GDP in the first quarter of 2011.

Government spending appears to be the only thing keeping the economy afloat, with government forecasts optimistically predicting a budget deficit of 5% in 2015. However, this deficit doesn’t include the costs of rebuilding the earthquake and tsunami stricken Tohoku region. The rebuild will result in tax increases, which will lead to lower growth, which will result in more government spending.

There also seems to be little to be gained in investing in Japan at the moment – the stock market is performing poorly and bond yields are low due to the 0% Bank of Japan (BoJ) interest rates.

0% interest rates, which will remain that low until 2013 according to BoJ

The carry trade

In forex, the carry trade involves buying a currency with a high interest rate against a currency with a low interest rate, as higher interest-rate currencies tend to appreciate against lower interest-rate currencies. If the USD had an interest rate of 5%, and the JPY had an interest rate of 1%, you would buy the USD/JPY pair, thereby buying the USD while selling the JPY.

As Japan has had low interest rates for years, it has been a popular currency to sell against those with higher interest rates. However, following the global financial crisis, many major currencies cut their interest rates as well, lessening the profitability of the carry trade.

At the time of writing, the CHF and USD both have interest rates of 0.25%, while the GBP, CAD and EUR are at 0.5%, 1% and 1.25% respectively. When these currencies started lowering their interest rates, investors started reversing their carry trades, meaning they sold the higher interest-rate currency while buying the lower interest-rate currency.

This resulted in the value of the JPY being pushed up in a time of global economic strife, but it was due to the reversal of carry trades rather than an intentional investment in the safe haven currency.

That being said, Japan’s interest rates are still 0% and BoJ is planning to keep them there until at least 2013, which will result in the carry trade strategy being feasible against high-yielding emerging markets. However, I don’t think this makes the JPY a true safe haven currency.

In comparison to other safe havens

One of the reasons why the JPY is still touted as a safe-haven is due to its strong performance against the USD. The JPY has recovered most of the losses inflicted upon it by the G7 intervention in March and remains close to 80.

However, against the CHF the JPY isn’t doing as well, with the CHF having risen against the JPY by 20% in the last year. The JPY peaked in the 2009 financial crisis and has fallen 10% since then, intimating that the rise of the JPY/USD forex pair could be equally due to dollar weakness as yen strength.

Related articles

• Safe Haven Currencies (talkingforex.wordpress.com)
• Forex features – safe haven currencies – the CHF (talkingforex.wordpress.com)
• Forex features – safe haven currencies – the USD (talkingforex.wordpress.com)