Yen Sharply Higher on Massive Carry Trade Unwinding

The forex market was dominated by massive carry trade unwinding last week. The Japanese yen, and to a lesser extend the Swissy, surged sharply across the board on risk aversion, that was triggered by concern on worsening of the subprime mortgage problems. Further carry trade yen shorts were covered after global stock markets tumbled, including a 4.2% weekly loss in the DJIA, which was the biggest weekly decline since Mar 03. The high yielding currencies were particularly hurt with NZD/JPY, AUD/JPY and GBP/JPY fallen over -6%, -5% and -3.75% respectively. And as a result, the higher yielding currencies were also much pressured against dollar and part of the funds flowed back to the safe haven dollar, thus providing some support to the greenback as it ended up stronger against all except yen.

A number of important economic data and events will be featured this week, including Jun PCE, both ISM indices and Non-farm payroll in the US, plus BoE and ECB meeting. However, the forex markets will likely continue to be extremely sensitive to further development in the risk aversion theme as well as reactions in both the stock and treasury markets. These factors could continue to overshadow economic data.

Housing data from the US last week are pointing to further slowdown in the housing markets. Existing homes sales fell another -3.8% in Jun to 5.75m annualized rate while new home sales dropped another -6.6% to 834k annualized rate. Durable goods orders rose 1.4% only comparing to expectation of 1.8% while ex-transport orders even dropped -0.5% comparing to consensus of 0.5% rise. The only piece of better data was indeed the advanced Q2 GDP which rebounded by rising 3.4%, beating consensus of 3.2%. However, inflation pressure is seen easing much with price index slowing to 2.7% and PCE core slowing to 1.4%, both below expectation.

Data from Eurozone are largely inline with expectation. Services and Manufacturing PMI both dropped slightly. The much anticipated German IFO index rose back to 106.4 in Jul, just a touch below expectation of 106.5. Eurozone M3 money supply growth reaccelerated to 10.9%. Though, Eurozone current account deficit widened further to -8.6B.

Japan is still in deflation as national CPI remained negative and dropped further to -0.2% in Jun. Retail sales unexpectedly fell -0.8% mom, -0.4% yoy, missing expectation of 0.2%, 0.6% too. Though, Jun trade surplus rose further to 1227B on faster exports.

House price inflation in UK was seen slowing with the rightmove house price index slowed to 10.3% yoy while nationwide house price index slowed to 9.9% in Jul. Meanwhile Swiss KOF leading indicator rose to 2.13, beating expectation of 2.00, suggesting the momentum of the swiss economy will carry on till early next year.

RBNZ raised rate by 25bps to 8.25%. However, Kiwi was sold off as the accompanying statement indicated this could be the last rate hike in the current cycle. Aussie was boosted briefly by stronger than expected consumer prices inflation at 2.1% yoy versus consensus of 1.9%. Canadian dollar was also boosted briefly by much stronger than expected retail sales which rose 2.8% mom with ex-auto rising 2.3%. However, the commodity currencies was sold off and remain pressured with massive carry trade unwinding towards the latter part of last week.

The Week Ahead

A lot of economic data will be featured in the US this week but focus should main be on Jun PCE on inflation outlook, both ISM indices and Friday’s NFP. ECB will hold a teleconference meeting on Thursday and so far, no press conference is scheduled. It left the market wondering how Trichet could signal a Sep hike or indeed, ECB will be on hold again in Sep and hike in Oct instead. BoE is also scheduled to meet on Thursday and is widely expected to keep rates unchanged.

Meanwhile, even though the data and events could still drive volatility in the markets, the main theme will likely remain to be risk aversion and any further development in the subprime mortgage markets, movements in the stock and bond markets will overshadow the data and events.


EUR/JPY was sold off sharply last week, reaching as low as 161.49, touching 161.49 structure support. The decisive break of short term rising trend line confirmed that the whole rise from 150.75 has completed at 168.39 with bearish divergence in daily MACD and RSI already. From a short term angle, further decline is still expected as long as 163.94 resistance holds. Next downside target will be 61.8% retracement of 150.75 to 168.93 at 157.69. On the upside, above 163.94 will indicate a short term bottom is in place and bring stronger recovery. But still, break of 165.51 resistance is needed to indicate fall from 168.93 has completed. Otherwise, risk remains on the downside even in case of recovery.

In the bigger picture, with medium term trend line (now at 156.01) remains intact, whole medium term rally from 130.60 is still treated as in progress and the interpretation remains unchanged. First wave up ended at 143.60, subsequent correction ended at 137.167. The third wave up ended at 159.63 while fourth wave correction has ended at 150.75. Rise from there represents the final advance in this structure. With 61.8% projection of 137.16 to 159.63 from 150.75 at 164.64 taken out decisively, next medium term upside target will be 100% projection of 137.16 to 159.63 from 150.75 at 173.22.

However, break of the medium term trend line support will argue that the whole up trend from 130.60 has indeed completed at 168.93 already. In such case, medium term outlook will be turned bearish for further decline to 150.75 support first.

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Shing-Ip Tsui is the founder and CEO of ActionForex is set up with the aim to empower individual forex traders by providing insightful contents. Analysis reports, live pivot points on majors and crosses, etc are provided with collection of carefully selected educational articles and free trading ebook downloads.