Something Different in Forex to Watch

March 2, 2012

It’s no understatement that the financial world has been single-mindedly obsessed over the last two years with Europe’s dysfunctional politics and accident-prone economy.  This vigil has engulfed currency markets along with many other market communities.  In the last month or so, however, two different themes have moved to center stage.  The first is a possible shift in the yen’s long-term upswing.  The second is the relentless upward grind of oil prices.  As winter soon gives way to spring, each of these developments is getting its due share of the spotlight.

The yen on balance has been strengthening since the onset of the global financial crisis.  Japan’s currency previously had been the world’s favorite carry trade funding currency and consequently weak in tone.  The table below presents yen per dollar and yen per euro ranges for calendar years since 2007.  The lower the number, the stronger the yen.

Ranges Yen Per Dollar Yen Per Euro
2007 124.14 – 107.23 169.05 – 149.25
2008 112.10 – 87.15 170.00 – 113.62
2009 101.44 – 84.83 139.22 – 112.06
2010 94.98 – 80.25 134.38 – 105.44
2011 85.54 – 75.55 123.33 – 99.58
2012 81.88 – 76.00 109.90 – 97.05


In the wake of last year’s catastrophic Sendai earthquake, Japanese authorities expressed mounting distress over their perception of excessive yen appreciation.  The anniversary of that disaster is just over a week away.  But even before the quake, back in mid-September 2010, Japan managed to secure the consent of fellow G7 governments to undertake joint intervention sales of yen in a single-day show of force and solidarity.  A follow-up operation was done last March 18.  Then on August 4 and again on October 31, Japan announced that it had acted unilaterally to sell yen, and those actions unlike the two before elicited criticism from officials elsewhere in the G7.  This past February 7, Japan’s government revealed that covert intervention had been also undertaken in early November, marking the first such unannounced intervention since March 2004.  This disclosure in the face of clear displeasure by other governments underscored the seriousness of the commitment to weakening the yen and appears to have had a desired negative effect on sentiment toward Japan’s currency

It helps, too, that the yen’s fundamental underpinnings have transformed adversely in two respects.  First, Japan’s chronic trade surplus has swung into deficit.  The current account as a result had been in surplus without interruption every calendar year since the early 1980s.  Those annual surpluses averaged 18.296 trillion yen in the five years to 2010 but were cut to JPY 9.629 trillion last year, when the trade position posted a deficit of JPY 1.6 trillion.  The trade gap in recent months has lurched deeper into the red.  In January, for instance, a customs trade deficit of JPY 1.48 trillion was triple the size of the year-earlier shortfall, reflecting import growth of 9.8% and a 9.3% drop in exports.  The other fundamental change has been a further expansion of quantitative easing by the Bank of Japan.

Things lately have been different for the yen.  After closing at JPY 76.67 on Friday, January 27, just 1.5% above its all-time low, the dollar edged up 0.1% to JPY 77.76 one week later, then advanced 1.2% to JPY 77.65 at the close on February 10, another 2.5% to JPY 79.57 on February 17, 2.0% further to 81.18 yen on February 24, and 0.8% to JPY 81.81 as of 20:00 today.  That’s a cumulative yen decline against the U.S. currency of 6.3% and the first string of five straight down weeks since 2010.  Meanwhile, the euro appreciated 13.2% from 97.05 yen on January 16 to a recent high of 109.90 set this past Monday.  Over the span from the closing on January 27 to now, the yen fell 6.1% against the euro, almost identical to the aforementioned drop of 6.3% relative to the dollar.  So while all the market fuss has been about Europe, the dollar and euro underwent scant net change against one another since January 27 as each strengthened considerably against the yen.  A span of five to seven weeks is too short to identify definitively that a multi-year era of yen appreciation has ended, but the development certainly bears close attention because if a new long-term trend has in fact begun, this would indeed still be the early days of that reversal.

About the other new market theme… In spite of touching a 10-month high of $110.55 per barrel this past week, the rise thus far and current level represents a manageable development, but a continuing risk exists of a substantial further spike in price stemming from tensions between Iran and the rest of the world.  Since the 1973-75 recession, oil prices have been a factor in every recession, but it is not so much the level of price that has mattered as the big and fairly compressed increases associated with economic downturns.  At $106.60 now, West Texas Intermediate oil costs just 7.1% more than five weeks ago, 23.3% more than six months ago, and a mere 4.3% more than on March 2, 2011.  Oil exceeds the one-year and five-year averages by 9.9% and 27.2%.  In contrast, a fourfold jump in oil prices after the 1973 Yom Kippur War triggered the 1973-75 recession.  Prior to the 2001 recession, oil had climbed 211% from a monthly mean of $10.87 per barrel in December 1998 to an average of $33.78 in September 2000.  In the first month of the financial crisis, for yet another example, oil averaged $72.17 in August 2007, but by July 2008, still before Lehman’ bankruptcy, the price was averaging 88.4% more at $135.97 per barrel.  The global economy is more fragile now than when those earlier oil shocks occurred, so the tipping point from a growth standpoint lies somewhere between the kind of price rise seen recently and the very sharp ones that promoted recessions in the past.

Some currencies that stand to benefit from high oil prices are the Norwegian krone, Russian ruble, and Mexican peso because those economies produce and export the stuff.  The yen traditionally is perceived to be vulnerable even though Japan has reengineered its growth to be much less energy-intensive than was the case 40 years ago.  Japan’s susceptibility to an oil shock is probably greater than four years ago because the Sendai earthquake and ensuing nuclear power plant catastrophe made the Japanese less trustful of that alternative energy source.  Whether the dollar or euro benefits more from an energy price shock is a complicated matter.  With the big U.S. current account deficit, a larger oil import bill would immediately augment one of the dollar’s negatives.  On the other hand, the United States is itself a large oil producer and has access to alternative energy sources from Canada and its own natural gas fracking possibilities.  Europe unfortunately remains too dependent on politically unpredictable Russian imports to meet its energy needs.  It’s thus quite plausible that the dollar would respond positively against the euro to a severe oil price shock, but price action thus far comes nowhere near to a threshold where this factor would take control of currency market developments.

Copyright 2012, Larry Greenberg.  All rights reserved.  No secondary distribution without express permission.

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