The Story Behind the USD/JPY Meltdown

07/10/2009 12:01 am EST

Focus: FOREX

Kathy Lien

Managing Director and Co-Founder BKForex LLC, BK Asset Management

The biggest story in the currency market is now the meltdown in USD/JPY. The US dollar fell to a four-month low against the Japanese yen, driving all of the yen crosses down with it. Although liquidation out of EUR/JPY and GBP/JPY may have contributed to the move, when USD/JPY broke below 93.50, the selloff quickly gained momentum. In a matter of minutes, USD/JPY was trading at 92.80, and within an hour, it hit an intraday low of 91.80.

With no US economic data on the calendar, traders have been searching for any rational explanation for the move. In yesterday’s Daily Currency Focus, we talked about how the correlation between USD/JPY and the S&P 500 has soared from –7% for the entire year to 85% in the past week.

Even though US stocks are only modestly lower, the intraday reversal into negative territory coincided with the breakdown in USD/JPY. US interest rates are also sharply lower with bond yields falling across the board. The narrowing spread between 10-year US treasuries and 10-year JGB (Japanese bonds) yields may have also added pressure on the currency pair. Japan also imports the majority of its oil and therefore, the continual slide in crude prices provides exceptional relief for the Japanese economy. Finally, the IMF released its updated growth forecasts and based upon their projections, sharply higher growth is expected in Japan next year. As you can see, it was a combination and not a single factor that triggered the meltdown in USD/JPY.

Still, the sharp rally in the Japanese yen spells disaster for Japanese corporations. If the yen remains strong, we would not be surprised to see the IMF revise down their 2010 growth forecasts for Japan. Although the rise in the Eco Watchers survey suggests that consumer sentiment is improving, real activity is not. Machine orders failed to recover in May, the trade surplus increased less than expected, and bankruptcies rose by 7.4%.

Exports have already dropped 42.2% from the year prior and we only can only imagine what a 7% rally in the yen since May will do to foreign demand. We would not be surprised to see a rebound following the sharp move in the yen crosses on Friday (July 10), but any relief rally should be capped by Thursday’s high of 94.85.

By Kathy Lien, Director of Currency Research at

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