Finotec News Archive - August 22 2007

Yen Rises as Higher Volatility

The yen advanced against the euro and dollar as rising volatility increased the risk to carry trade investors of buying assets with money borrowed in Japan. The high-yielding Australian dollar, which has been a beneficiary of carry trades, was among

Benny Menashe
22 August 2007

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The yen advanced against the euro and dollar as rising volatility increased the risk to carry trade investors of buying assets with money borrowed in Japan. The high-yielding Australian dollar, which has been a beneficiary of carry trades, was among the biggest losers against the yen. Treasury Secretary Henry Paulson, who met today with U.S. Federal Reserve Chairman Ben S. Bernanke and Senate Banking Committee Chairman Christopher Dodd, told CNBC volatility will ``take time'' to subside. ``In a high-volatility environment, the carry trades don't perform,'' said Robert Fullem, vice president of U.S. corporate currency sales in New York at Bank of Tokyo-Mitsubishi UFJ Ltd. The yen is ``going to be in demand.''

Volatility on one-month dollar-yen options rose to 15.75 percent, more than twice the yearly average. Higher volatility discourages carry trades because it implies the bets will be exposed to greater exchange-rate fluctuations. ``There's more room for dollar weakness versus the yen before markets stabilize,'' said Firas Askari, director of foreign exchange trading in Toronto at BMO Capital Markets. ``The markets overall have underestimated the contagion effect of the sub prime sector and how widespread the fear has become.''

The Canadian and Australian dollars posted the biggest losses against the yen among the most actively traded currencies, both dropping about 1.3 percent. New Zealand's dollar fell 0.9 percent. The U.S. dollar has fallen 5.8 percent against the yen in the past month. The Swiss franc, another currency used to finance carry trades, pared its earlier gains against the U.S. dollar and euro. The Swiss franc has risen 12.7 percent versus the high- yielding New Zealand dollar in the past month.

Japan's benchmark borrowing costs of 0.5 percent, the lowest among major economies, and Switzerland's 2.5 percent compares with New Zealand's 8.25 percent and Australia's 6.5 percent target rates. Interest rate futures show traders see an 88 percent chance the Fed will lower its target rate to 4.75 percent from 5.25 percent by Sept. 18, up from 70 percent yesterday. ``The Fed must cut rates to keep the economy going,'' said Jason Schenker, an economist in Charlotte, North Carolina, at Wachovia Corp. ``If businesses are spooked and pull back from investing as a result of higher cost of capital, then you will see jobs slow and the economy cool down.'' The Fed on Aug. 17 reduced the rate it charges banks for direct loans by 0.5 percentage point to 5.75 percent. The central bank dropped language indicating a bias toward fighting inflation and highlighted a rising threat to economic growth.

Finotec Analysis Team
22 August 2007

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