Yen Near 3-Year High as Stock Slump Spurs Carry Trade Reversal

By Stanley White and Ron Harui

Oct. 8 (Bloomberg) -- The yen traded near a three-year high against the euro on speculation a slide in Asian stocks will prompt investors to reduce holdings of higher-yielding assets financed in Japan, known as carry trades.

The currency was also close to a six-month high against the dollar on concern global economic growth will slow as the credit crisis spreads. The British pound rose as Prime Minister Gordon Brown prepares a package that will include injecting capital into struggling banks.

``Lingering fears about the health of financial sectors in the U.S. and Europe and concerns over a global recession should continue to underpin the yen,'' said Danica Hampton, currency strategist at Bank of New Zealand Ltd. in Wellington. ``We're far from out of the woods and any restoration of investor confidence will take time.''

Japan's currency traded at 137.73 per euro at 10:29 a.m. in Tokyo from 137.89 late in New York yesterday. It reached 135.05 on Oct. 6, the strongest since September 2005. The currency was quoted at 101.34 against the dollar from 101.47. It rose to 100.24 on Oct. 6, the highest since April 10. The euro bought $1.3592 from $1.3588.

Against the Australian dollar, the yen rose to 71.97 from 72.84 late yesterday in Asia. It also advanced to 63.29 per New Zealand dollar from 64.11.

Carry Trades

The Nikkei 225 Stock Average declined 3.5 percent. The Standard & Poor's 500 Index fell 5.7 percent yesterday, breaking below 1,000 for the first time since 2003. In carry trades, investors get funds in nations with low borrowing costs and buy assets where returns are higher. Benchmark rates are 0.5 in Japan, 4.25 percent in Europe, 5 percent in the U.K., 6 percent in Australia and 7.5 percent in New Zealand. The risk of a carry trade is that currency moves erase profits.

South Korea's won slid 1.6 percent to 1,349.75 against the dollar, near the seven-and-a-half year low of 1,364.05 reached yesterday, as a shortage of dollars in money markets forced companies to buy the greenback in the currency market. The Thai baht declined 0.3 percent to 34.58 and the Malaysian ringgit weakened 0.2 percent to 3.4980.

The yen also was supported as implied volatility on one-month dollar-yen options rose to 22.70 percent from 21.79 percent yesterday, when it reached the highest since January 1999. Higher volatility may discourage carry trades as it indicates a larger risk of price fluctuations.

U.S. Rates

The dollar may accelerate declines as the Federal Reserve signals it's prepared to lower interest rates as a credit crisis grips the global economy.

Philadelphia Fed President Charles Plosser speaks on monetary policy at 7:45 a.m. in New York today. The Fed ``will need to consider whether the current stance of policy remains appropriate,'' Chairman Ben S. Bernanke said yesterday after the U.S. central bank decided to buy commercial paper and help revive the corporate debt market after the subprime mortgage crisis.

``The dollar is likely to edge lower against the yen,'' said Tsutomu Soma, a bond and currency dealer in Tokyo at Okasan Securities Co., Japan's fifth-largest broker by revenue. ``A possible Fed rate cut highlights how dire the situation is in the U.S. The fundamentals simply aren't sound.''

The dollar may fall to 101.10 yen today, Soma forecast.

Interest-rate futures indicate the Fed will lower its 2 percent target lending rate by at least a half-percentage point by its next meeting on Oct. 29.

U.K. Bank Plan

The pound rose to $1.7514 from $1.7455 yesterday. It also advanced to 77.64 pence per euro from 77.87.

Prime Minister Brown is compiling a bank rescue package after European Union leaders failed announce a unified response after talks over the weekend, three people familiar with the decision said.

The U.K central bank will reduce its 5 percent benchmark rate by a quarter-percentage point tomorrow, according to the median forecast of 61 economists surveyed by Bloomberg News. Finance ministers and central bankers from the Group of Seven nations will meet in Washington the next day to discuss the deepening credit-market crisis.

The U.K.'s gross domestic product shrank 0.2 percent in the three months through September, the London-based institute said. The International Monetary Fund expects the economy to contract next year, according to a draft of its revised forecasts obtained by Bloomberg News.

To contact the reporters on this story: Stanley White in Tokyo at Swhite28@bloomberg.net; Ron Harui in Singapore at Rharui@bloomberg.net

Last Updated: October 7, 2008 21:49 EDT