Yen Archives | Opportunity Identified

The currency markets are the largest and most actively traded markets in the world with $5,100,000,000,000 worth of trading each day. [1] That’s trillion with a capital “T”. With foreign exchange being used by institutions large and small in the most liquid markets in the world, it makes sense to pay attention to them for clues. These markets are impacted by the same forces of supply and demand as any other market, like stocks, bonds, and commodities. Each transaction in the currency market involves two different trades: the sale of one currency and the purchase of another. The two currencies involved in the trade are known as a pair. While it’s possible to quote a price in any currency pair, in the interbank market (which is the ultimate generator of foreign exchange liquidity) most currencies are only tradable against a small number of other currencies – most commonly the U.S. Dollar. There are eight major pairs. As shown below, the three biggest currencies responsible for most of the volume are the U.S. Dollar, European Union Euro, and Japanese Yen. We’re going to focus on those. In addition, we’re going to see what’s going on with one of the exotic currencies, the Mexican Peso. All three of the pairs under review will involve the U.S. Dollar, the world’s “hub” and reserve currency.

First, let’s start with the largest pair, U.S. Dollar / Euro (USD:EUR). Here’s a weekly chart of the pair going back 10 years.

Right away, we can see the U.S. Dollar’s strong rally against the Euro in 2014. Since the beginning of 2015, however, the pair has been locked in a range with equal buying and selling pressure. Earlier this year, it appeared the Dollar was on the verge of breaking out again, but sellers stepped in and drove it back down in what could be a false move. From false moves come fast moves in the opposite direction. The USD:EUR still has a series of higher lows in place. That would change with a close below 0.92 and cause a breach of the upward trendline (annotated in green). Such a move could see the Dollar weaken to the point of revisiting a prior area of support near 0.87.

Next up, the U.S. Dollar / Japanese Yen (USD:JPY) looking back 10 years.

After a strong rally from mid-2016 through early 2017, the Dollar has stalled and moved lower after kissing the upper trend green trend line. After establishing another in a series of lower highs, the USD:JPY is at a major level of support near 111. A sustained break below 110 could trigger further Dollar weakness down to 100, a major level of supply and demand over the past decade.

Finally, the U.S Dollar / Mexican Peso (USD:MXN). Not one of the main currency crosses, but insightful nonetheless.

Here we have the world’s reserve currency potentially breaking down versus a historical weak currency. That’s notable. Since early 2015, the U.S. Dollar has been ripping versus the Peso. However, the U.S. Dollar peaked in early 2017 and has reversed down just as it did against the aforementioned major pairs. Across the currency spectrum, since January 1st, we’re seeing the Dollar weaken. See below.

A picture is worth a thousand words. Since the beginning of 2017, the Almighty Dollar has been weakening against almost the entire currency complex. So what’s the big deal? Well, since much our world (including stocks, commodities, goods, and services) is priced in Dollars, this development could provide some significant opportunities in many different asset classes. What specifically? That’s for another post. What do we know for sure? Price knows more than we do.

As always, you can get real-time updates and commentary about this development and many more opportunities here: @360Research

AND, you’ve got FREE access to an investing tool we’ve created, The Ultimate ETF Cheat Sheet. It’s an easy-to-use resource guide.

[1] Source: Bank of International Settlements, 2016 survey

Disclaimer: Nothing in this article should be construed as investment advice or a solicitation to buy or sell a security. You invest based on your own decisions. Everything in this post is meant for educational and entertainment purposes only. I or my affiliates may hold positions in securities mentioned in this blog. Please see our Disclosure page for full disclaimer.

Depending on who you ask, the yen carry trade is either alive and well, or an overused parlance in the investment community.

What is a carry trade anyway?

A carry trade is an investment strategy in which an investor borrows money at a low interest rate in order to invest in assets they speculate will generate a greater return. This strategy is very common in the foreign exchange market and works especially well if asset prices are stable and the currencies involved do not move against the investor. Adding to the fun, many investment houses will ramp up their returns by using additional leverage. The return can be quite impressive if the currency borrowed remains stable or continues to depreciate against the currency used to purchase the investment.

So how does the “yen carry trade” work? In a nutshell:

Large money managers and hedge funds borrow the yen at extremely low interest rates.
Yen are converted to U.S. dollars, which are invested in U.S. Treasuries at a much higher yield than the interest cost for the borrowed yen. That creates a “positive carry” because of the differential in interest rates.
The buying drives up U.S. bond prices and the money managers experience large profits, especially when done with additional leverage (this assumes the yen doesn’t rise in value).
Even more profits are made when (A) The dollar rises vs. the yen and (B) U.S. Treasuries rise in price

Whether one thinks this investment strategy is widely used or not, we can assure you that investors (especially U.S. based investors) should care which direction the yen moves. Why? Correlation. The yen has an impressively high negative correlation to U.S. equity prices (today, we’ll use the S&P500 in our examples). And for our statisticians out there, we know that correlation doesn’t mean causation, but it does have implication. For many years now, the correlation between the yen and S&P 500 has been -0.9 to -1.0. Meaning, whichever direction one goes, the other goes equally the other direction. So as investors, we should definitely care which direction the yen is heading. If it is dropping in value, that is a positive for the S&P 500 while an increase in yen value means trouble for the S&P 500.

As you might have guessed by now, studying the yen is a valuable exercise in determining what type of environment the S&P500 is in. So let’s take a look at it. Here is a 4 year chart of the yen (using ETF FXY as our proxy) along with the S&P 500 (top pane):

It quickly becomes obvious there is an important relationship here. The yen was breaking out from a 4 year downtrend at the same time as the S&P 500 was breaking down from a 4 year uptrend. Lucky coincidence? Maybe. Significantly important? Absolutely. Especially to those who are trying to make money in the markets.

When we move in for a closer look, we find the recent breakout and consolidation of the yen is targeting 86 if overhead supply near 82 is cleared and a return to 77 if the yen breaks below 80. If the former takes place, it is better than an educated guess that the S&P will continue to correct. If the latter takes place, the S&P will continue upward.

At 360 Investment Research, we don’t care about being right. Rather, we care about being on the right side of the trade. In this case, we think the relationship between the yen and U.S. equity prices is an important one for helping us identify opportunities in the U.S. stock market. Let’s keep an eye on the yen and see what happens. We’ll follow-up on this release once the yen picks a direction.

Trade safe.

Disclaimer: Nothing in this article should be construed as investment advice or a solicitation to buy or sell a security. You invest based on your own decisions.

Keywords: yen to dollar, yen symbol, yen carry trade unwind, yen carry trade collapse, yen carry trade example, yen carry trade meaning, yen and carry trade, yen carry trade appreciation

3 Critical Insights From The U.S. Dollar

Why Is The Yen Carry Trade Such A Big Deal Anyway?