Tuesday, October 28, 2008

Chart of the Day: Yen carry-trade

Yesterday, after the market closed, I posted on my blog that I felt "...there is a big, fierce, snapback rally brewing". I'm not sure if today's strong +10.8% rally qualifies, but it sure is a nice start.

One of the biggest factors for today's rally was the plunge in the Japanese Yen. The Yen has been on a tear recently, as has renewed fears about the unwinding of the Yen carry-trade. The last time I wrote about this phenomenon was back in March (search archives), when the spike in the Yen back then (see chart below) sparked the same worries. Both instances were associated with dramatic selloffs in global stocks.

The chart above shows the dramatic reversal in the Yen etf (FXY) today. This was the largest one-day decline since Jan. 1974, a month that touched off a huge rally in the stock market. The reversal in the yen could be indicative that large players that had been selling equities to buy back their yen positions are finally finished.

This would bode well for global equities. Last night, Asian markets surged higher, and right now it looks like they are set to open higher again. The Bank of Japan said it is considering cutting its already low interest rates from 0.50% to 0.25%. This would further pressure the yen, and help the overall cause.

I think the unwinding of the yen carry trade is related to the overall deleveraging that we have seen in the markets, and that has contributed to the unprecedented and relentless selling pressure in the markets. Any reprieve from this selling pressure would allow the markets to further lift, which could take the pressure off of funds seeing redemptions.

In recent weeks, these surges in the stock market have been one-day affairs. So it will be interesting to see if we get some follow-through to today's action. Tomorrow, the FOMC meets and will cut interest rates (I am now in the 50 bps camp). Will traders sell into the news? One has to wonder.


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