Sunday, March 04, 2007
The Yen Carry Trade- A Technical Perspective
Executing a Yen Carry Trade involves selling the Yen and using the proceeds from the sale to invest in Treasuries or equities which return a higher rate of interest. This is in effect the same as shorting the Yen. The reason this transaction is profitable is because it costs very little in interest to borrow the Yen- just 0.5%
If the Yen is then coverted to Dollars, the money can be used to purchase U.S. Treasuries which yield ~4.5%. Anyone who executes this carry trade has just made 4%. If one has a higher risk tolerance, the proceeds from converting Yen to Dollars can be used to buy stocks.
It is easy to see why this is a popular trade. No one is sure exactly how much global equity is involved in this trade, but estimates typically start at one trillion dollars.
Why Would This Trade Unwind?
Several factors could cause this trade to unwind.
- The cost to borrow the Yen could increase. In fact, on Wednesday, February 21st 2007, the Bank of Japan raised its main interest rate .25%, to 0.5%. This effectively doubles the cost to borrow the Yen and raises the rate to the highest it is has been in more than a decade. (Read the article). Any raise in interest rates from the BOJ lowers the profit of the trade.
- The U.S. economy could move towards a recession, causing the U.S. to lower interest rates, which in turns lowers the return from U.S. Treasury Bonds. (Remember U.S. Treasury Bonds are a popular place to park the converted Yen to earn a fixed rate.) When this happens, the value of a USD falls.
- The value of the USD could fall, and the Yen could rise.
If the trade were to unwind, we would expect to see a large-scale dump of U.S. bonds and stocks, as each is sold to free up the Dollar to be converted back to Yens, effectively closing out the carry-trade. The USD would fall in value, and the Yen would rise.
What Do The Charts Say?
Unfortunately, Blogger will not let me move the charts down to this area of the article. Well, I can move them down here, but then they will not enlarge when clicked upon. My apologies for this inconvenience.
Lets look at charts of the USD/JPY. The Yen Carry Trade hinges upon this currency pair.
The first chart is an 18 year, monthly chart. We can see that the USD/JPY has created a coiled spring pattern or a symmetrical triangle. It is very important to notice that the Bollinger Bands are tighter now than they have been in over 18 years. This is crucial. The Bollinger Bands are telling us that volatility is coming. In general, this chart is showing us how the volatility of the USD/JPY has drawn within an ever-tightening range.
The second chart is weekly in period and covers 5 years. This charts shows that the Dollar hit 5 year resistance at ~122.00 and is headed back down towards its rising trend line.
The third chart is a daily chart covering 1 year. It shows the USD/JPY trading within a rising channel. On Friday, it closed at the very bottom of the channel. If this channel is breached to the downside, look for the USD/JPY to find support at the trendline indicated on the weekly chart.
The U.S. economy does appear to be slowing. The Japanese economy is heating up. The Yen is at 4 year lows compared to the Dollar, and the Dollar may continue softening from the dilutive effect of adding billions of treasury debt each week. With the U.S. stock market in a correctional phase, converted Yen which was used to buy U.S. debt and equity may go back home to roost. This will result in more buying of the Yen, and selling of the Dollar. While the technicals do not give a clear indication of any sort of catastrophic unwinding, they do point to the USD/JPY declining to long-term trendlines. This creates a mildly bullish technical picture for the Yen.
If you decide you want to be bullish on the Yen, you can get long it via FXY.
We are fucking doomed tomorrow. However, I will make a bundle in my shorts and OEX puts. Sorry, fuckers (not really)
TOKYO, March 5 (Reuters) - Tokyo stocks are expected to book heavy losses on Monday, with the Nikkei average falling below 17,000 for the first time in nearly two months, after the recent sell-off continued in New York and due to the stronger yen.
Nikkei futures pointed to a steep decline in the market. Contracts expiring in March <2NKc1> finished at 16,865 in Chicago, down 295 points from the close in Osaka
"Today is going to hurt," said Shinji Igarashi, equity manager at the sales department of Chuo Securities.
"There really aren't any reasons to buy at all ... exporters and high-tech stocks are likely to come under pressure because of the stronger yen."
I went from being 90% long before last Tues to being 66% short, 13% cash and 21% long by Friday. (it's easy when you're podunk and don't have to explain yourself to clients ;) Looks like Monday in Asia is big-time ugly.
cherry picking fly's list of RIMM, MVIS, BWLD, HANS, CORS, ACLI, leads me to two obvious standouts: bwld & rimm which are both holding above the 50 dma, as of friday's close. cors looks like a train wreck, and the others are flashing caution.
a few that i'm watching: brcd, amazing chart in this correction, nok, holding at the 50 dma, nfs, just under the 50 dma, srpix for those who want to be inverse the re index, & bsg, holding at the 50 dma.
any additions or deletions?
Here is a 5 year chart of the EURJPY movement.
I'll let you figure out what an unwinding of the yen carry trade will do to this chart.
Maggot, leverage is always the issue with currency trades. Again, there was a lot I wanted to cover, but I didn't want to full-on hijack The Fly's space.
The trade accounts between the USA and Japan are far larger than what goes on between Europe, and Japan. That is why the Dollar has been able to absorb the Yen carry trade far better than the Euro has.
The question is, I have no idea what the carry-trade artists have been investing in, here in Europe.