On the heels of a rising yen, Japanese leaders recently warned about potential intervention in the currency market and announced measures last night aimed to weaken the currency, proposing new economic stimuli and easing monetary policy further. Will these steps be enough? The government has been incompetent for the last two decades as it has failed to solve the deflationary spiral resulted from a major credit bubble in the late 1980's. On the other hand, demographics are extremely unfavorable as aging population (1/3 over age 65) also adds to deflationary pressure. The Bank of Japan has kept interest rate at zero and the government has taken on huge amount of debt (debt/GDP nearly 200%) in order to boost economic activity. You might wonder why the yen has risen given these terrible data points. The answer is Japanese businesses and households had sent their money from cheap loans and savings abroad to invest in higher-yield assets, taking advantage of the interest rate differential. The carry trade worked beautifully during the boom years, but was halted and reversed when countries from the U.S. to Germany to China were forced to slash interest rates in order to cope with the worst recession since the Great Depression. As a result of the reversal, a shortage occured, and supply/demand has driven up the yen to 15-year highs. Therefore, I believe the yen will continue to strengthen and should retest its all-time high vs. the USD (79.74 in 1995) as countries in the developed world are still years away from raising rates, making their respective currencies good carry-trade candidates. From a technical perspective, the USD/JPY cross currently looks oversold, so I recommend waiting for a retracement before shorting again.
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