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How to Make a Killing in the Yen

Japan Is About to Cry “Uncle!”

Make a Killing as Japan
Intervenes in the Yen Once Again

By Sean Hyman, Editor, Currency Cross Trader

Everyone wants to stay competitive.

Target wants to keep their prices somewhat in line with Wal-Mart. Burger King wants to keep their pricing somewhat in line with McDonalds. Otherwise, they lose customers to their competitors.

The same thing happens in the currency world.

All throughout Asia, many countries do tons of business with the U.S. and Europe. These Asian exporters have to keep their pricing somewhat in-line with each other.

Otherwise, their big export customers in Europe and the U.S. will do their shopping elsewhere.

How does a whole country keep their pricing competitive? Easy. They keep their currencies valued about the same.

An Overly Strong Currency
Can Destroy an Economy

If a country doesn’t manage their currency, their major export goods will start looking “expensive” to the rest of the world. If that happens, their best export customers will look elsewhere for cheaper goods.

This wreaks havoc on export countries.

Businesses slow down. Companies lay off workers. Unemployment levels eventually rise. It also slows down that nation’s overall growth.

So there’s a lot riding on these countries to “get it right” and keep their exchanges rates somewhat in-line with one another. Otherwise, they lose business to another exporting country who managed their exchange rates more effectively.

Japan is one of the Asian exporters that occasionally loses its competitive edge in the global market.

It’s all because of the Japanese yen.

The Japanese yen is seen as a “safe haven” currency. So when stock markets drop, or disaster strikes in some part of the world, traders pile into the yen and force it to climb against the dollar. Suddenly Japan loses its competitive advantage.

To make matters worse, Japan is a big export country. Japan has big-name exporters like Toyota, Sony, and Panasonic. Each of these exporters stands to lose billions in business as the yen strengthens in value.

So it’s no surprise that these companies scream at the Bank of Japan to do something when the yen gains in value.

They demand the Bank of Japan (BOJ) “intervene” in the currency market to force the dollar to rise against the yen. They want to push the USD/JPY exchange rate up enough to get the U.S. to buy Japanese goods again.

What Intervention Looks Like

To intervene in the markets, the BOJ must sell the Japanese yen aggressively in the market to try to manipulate the yen’s price.

The Bank of Japan did this back in 2004 for instance. They were very successful in the short-term. Check out the chart below, and you’ll see what a “currency intervention” looks like.

Japan Intervened Twice in 2004!

Click here to view larger image

As USD/JPY goes lower on the chart, it means the dollar is dropping like a rock, while the yen gets even stronger.

So when the central bank intervenes, the Bank of Japan dumps Japanese yen and buys up dollars as quickly as possible. That tends to shoot the USD/JPY higher on the chart, at least in the short-term.

For example, in February 2004, the Bank of Japan intervened in the markets and pushed the dollar up 6.71% against the yen in just 12 days. That’s an unleveraged return.

However, even with a modest 100-to-1 leverage, you could have made over six times your money in the Forex market.

Even without doing the math, you can see Forex traders made a killing in 2004, simply by buying the USD/JPY. (In effect, just following the BOJ’s lead.)

For the Forex traders out there… that was a move of over 700 pips. So if you were trading five mini-lots, you would have made $3,500. Trading 10 mini-lots, you would have made $7,000.

In April of 2004, the central bank dug their heels in and really taught the USD/JPY short sellers another lesson.

They intervened in the market and forced the USD/JPY pair to climb over 1,100 pips or 11.05% in under two months. So if you had bought the pair, you would have potentially made $1,100 per mini lot traded in the Forex market.

Now the Bank of Japan doesn’t intervene in the market very often. In fact, they didn’t intervene again until September 2010. Then they did again in March of this year.

The Bank of Japan is at it Again!

Please click here to view larger image

As you can see from the chart above, the Bank of Japan has intervened twice in the past year. The Bank of Japan intervened by themselves in Sept. 2010 as they typically do.

But in March, earthquakes, tsunami and a nuclear incident made the yen stronger than ever, as traders rushed for the safe haven. That caused many G-7 central banks to join in on the party…and all intervene in the yen at the same time.

That forced a much larger leap in the USD/JPY as you can see above.

The Strong Yen is Back in
the “Intervention Zone” Yet Again

Well, that “stubborn yen” has continued to strengthen yet again. Right now, we’re right in the middle of the intervention zone (the green area), where the Bank of Japan typically intervenes in the currency.

That means it’s very possible the Bank of Japan will intervene again to push up the yen’s value. Now there’s no way to know if they will intervene tomorrow, or next month, or later this year.

But as a trader, I know those Japanese exporters must be crying uncle now. That means I’m watching and listening for any whisper of another intervention.

I know it’s coming. It’s just a matter of when.

They could intervene tomorrow, considering the USD/JPY exchange rate has hit the 78-79s (as of this writing). Or they may wait until the USD/JPY hits the 76 level like last time. Or they could even wait for a new all-time low before they act.

But honestly, I don’t care when they intervene. It’s more of a question of reacting when they do.

Once you hear about an intervention happening, there are some serious profits to be made, simply by buying the USD/JPY pair in the Forex market.

And as a long-term investor, you can short the yen in the short-term with a simple ETF.  Again, it’s as easy as shorting the yen at the proper time.

Bottom line: an intervention is coming soon. When it comes, you can make a killing simply by following the Bank of Japan’s lead and shorting the yen.

Have a Nice Day!

Sean Hyman
Editor, Currency Cross Trader

Japanese Yen – Your Next 400% Winner?

japanese yen

By Evaldo Albuquerque, editor, Exotic FX Alert

“I certainly thought that inflation was a dragon that was eating at our innards, or more than our innards, and if anybody was going to deal with this it was going to have to be the Federal Reserve. I saw the need to slay that dragon.”

…That’s how Paul Volker describes his tenure as the Fed Chief in the 1980’s. His job was to “slay the inflation dragon.”

That may sound strange – especially if you read how most Fed Chiefs have welcomed inflation and devalued the dollar over the last century in yesterday’s Sovereign Investor.

But Paul Volker is probably the only exception to that sad legacy.

Volker became a legend on Wall Street in the early 1980s when he hiked interest rates to curb strong U.S. inflation.

Until very recently, Volker was the head of Obama’s outside panel of economic advisers. But he just quit!

The guy who “slew the inflation dragon” was probably feeling like a complete misfit in an administration that’s clueless about inflation risks. I’m sure he didn’t want to be associated with a government that’s unleashing the dragon once again.

As Obama-style inflation rips through the markets, many investors will duck for the cover of hard assets. However, there is a better way.

You can earn as much as 400% from inflation risks with a single surprising play in the Forex market. I’ll introduce that play in just a second. First let’s take a look at how this coming inflation will shock the currency markets.

Fed Rumblings Will Send Bond Rates Higher in 2011

So far, pretty much all the Fed members agree interest rates must remain at just above 0%. This means most Fed-Heads aren’t ready to battle inflation at the expense of the economy. That’s why most investors are not focusing on inflation risks either.

However, that is about to change this year.

With economic momentum building, certain Federal Reserve bankers are now calling for higher rates. After all, unlike Bernanke, some Fed members actually care about rising inflation risks.

Once the discussions among Fed members start to pick up, investors will start speculating that the Fed will raise rates to fight inflation. Yields on U.S. bonds will have to rise to compensate investors for inflation risks.

Even though I don’t expect the Fed to hike rates this year, yields will start moving higher way before then.

That’s important because higher yields will cause incredible shocks in the Forex market. It will affect one currency in particular: the Japanese yen.

Japanese Yen: Ground Zero for the
Next Currency Shock

With its 0% interest rate, the Japanese yen has been the traditional funding currency for carry trades. In other words, traders have traditionally borrowed Japanese yen to invest in currencies that offer higher yields.

But when U.S. interest rates collapsed in recent years, the Japanese yen finally had some competition from the U.S. dollar. Traders started to use the dollar as a funding currency.

Once U.S. interest rates rise, the dollar will see a short-term spike in value against currencies with lower interest rates, such as the Japanese yen. That’s because as interest-rate differentials between these two currencies will widen. When that happens, money will naturally flow out of the low-yielding yen and into the higher-yielding dollar.

With Japan trapped in an eternal deflation, rates won’t go up anytime soon. So the yen will once again become the favorite funding currency for carry trades. That’s when we will see the pair USD/JPY moving higher (the dollar will strengthen against the yen).

Check out the chart below. It’s very clear there’s a strong inverse correlation between the yen and U.S. yields. When U.S. yields rise, the dollar gains in value against the Japanese yen. It happened in 2004, and it looks like it will happen again this year.

Higher Yields in the U.S. Will Force the
Dollar to Rise Against the Japanese Yen

The U.S. dollar is massively undervalued compared to the Japanese yen right now.

A small move in the 2-year Treasury yield, such as the one we’ve seen in the beginning of 2010, would be enough to push the USD/JPY pair up by at least 8%. In the currency world, 8% is a HUGE move.

Using leverage that’s available in the Forex market, you can turn that 8% move into profits of 400% in the next few months. All you have to do is buy the USD/JPY (or essentially buy the dollar, short the Japanese yen). Just keep in mind there will be a few pullbacks along the way, so make sure you have stop-losses in place.

As you can see, the Fed’s current monetary policy will shock the foreign exchange market this year. Shorting the yen will be a nice way to profit off these coming inflation shocks.

Best Regards,

Evaldo Albuquerque
Editor, Exotic FX Alert
Blog: http://evaldo.worldcurrencywatch.com