Written by Amanda Cooper
LONDON (Reuters) – The yen faced choppy trading on Thursday after a sharp fall the previous day in a volatile week as investors had to digest the unwinding of popular interest rate positions and how Japanese monetary policy might evolve.
The yen swung between a 0.14% loss and a 0.85% gain, after falling 1.6% on Wednesday after Bank of Japan Deputy Governor Shinichi Uchida played down the chances of a near-term interest rate hike, which would typically boost the currency.
The yen started the week at a seven-month high of 141.675 against the dollar, still far from a 38-year low hit in early July, after weak U.S. jobs data last week sparked recession fears and rattled investors.
The Bank of Japan’s surprise interest rate hike last week also forced investors to abandon carry trades in which they borrow yen at low interest rates to invest in dollar-denominated assets for higher returns. That pullback has given the yen a boost.
A summary of views expressed at the Bank of Japan’s July policy meeting on Thursday showed some board members signaling the need to continue raising interest rates, with one saying they should eventually be raised to at least around 1%.
The contrasting views from the brief and Uchida on whether the Bank of Japan will continue to raise interest rates, or pause due to market volatility, highlight the delicate task facing the central bank and are likely to keep investors on edge.
Some analysts believe that this decline in carry trade may take longer, and may only be halfway through, which could increase volatility.
Even if the Fed cuts interest rates sharply, as most traders expect in September, and the Bank of Japan raises rates again, there will still be an incentive to use the yen to fund other deals.
“There could be fresh short selling in the yen,” said Jane Foley, a strategist at Rabobank. “In the same way that people were looking for deals in the S&P on Tuesday, they are very likely to be looking for deals in the dollar/yen.”
“There will be people who don’t see any reason to expect further improvement, and that’s what makes the market.”
In fact, the options market showed that demand for protection against large swings in the yen price over the next month reached its highest levels since early 2023 this week.
The Swiss franc, another currency used to fund carry trades and which benefited from the downward momentum earlier this week, rose 0.6% to 0.8569 against the dollar, after falling more than 1% on Wednesday.
The weekly data on initial jobless claims in the United States is due at 1230 GMT, which could inject more volatility into the currency market, given concerns over last week’s monthly employment figures.
Defensive Dollar
Sharp moves in the yen pushed the U.S. dollar, which measures the greenback against six other currencies including the yen, down modestly to 103.08, above a seven-month low of 102.15 hit on Monday.
The euro was steady at $1.09275, while the pound was steady at $1.2693, near its lowest level in a month.
Traders are currently pricing in an 86% chance of the Fed cutting rates by a half-point at its next meeting in September as the economy slows, but they are also pricing in a 26.5% chance of a smaller cut of about 25 basis points, according to CME Group’s FedWatch tool.
On Monday, they at one point fully priced in a 50 basis point rate cut and even began pricing in the possibility of an emergency rate cut ahead of the September meeting, though those odds have since receded, as markets have stabilized.
Investors are now looking ahead to the U.S. consumer price inflation report for July due next week, as well as comments from Federal Reserve Chairman Jerome Powell at the central bank’s economic policy symposium in Jackson Hole on Aug. 22-24.
“Investors need to brace themselves for a tough ride,” said Vasu Menon, managing director of investment strategy at OCBC Bank.
The Australian dollar rose 0.5% to $0.6553, while the New Zealand dollar was steady at $0.5994.