Possible Carry Trade Resurgence

As the yen fell from a two week high against the dollar and weakened versus the euro this morning, it is possible that the carry trade is back in action among traders. The yen dropped to 123.04 per dollar at 9:35 a.m. from yesterday’s price at 122.83. Against the euro, the Japanese currency fell from 165.24 to 165.77. The yen, with its remarkably low interest rate, can be borrowed and used to buy currencies with much higher interest rates. The difference in rates then allows for a sizeable profit with out the rate of exchange having to more a pip in either direction.

According to Nicholas Bennenbroek of Wells Fargo & Co, markets are back on track and investors have regained confidence in the carry trade. Reports on the U.S. economy have shown a 0.7 percent first quarter growth beating lower expectations. Furthermore, investors are expecting policymakers at the Federal Reserve to hold interest rates at 5.25 percent. The final Fed report is due today at 2:15 p.m.

Even though the signs point to a resurging carry trade, investors should be wary of long term goals by Japan’s Central Bank. As soon as the opportunity presents itself, the BoJ will raise interest rates immediately. Due to years of persistent deflation in the Japanese economy, policymakers have continually been forced keep low interest rates. Recent reports have in fact shown that core consumer prices have been steadily decreasing every month this year. Data reveals a fall of 0.1 percent since a year ago.

On the other hand, in favor of Japan’s Central Bank are yesterday’s figures which revealed an unexpected rise in retail sales. Japan’s retail sales rose for the first time in eight months increasing by 0.1 percent in May from a year ago. Furthermore, economists are expecting core prices in Tokyo to rise for the first time in five months. This could in fact be an inflationary start for Japan’s economy. As soon as Japan’s Central Bank gets a chance to increase interest rates, long run confidence in the carry trade will diminish immediately.