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Yen to dollar exchange rate explained

This site is dedicated to offering help, advice and analysis, of the yen to dollar currency pair, both for forex traders, but also currency investors, and you can find my latest forecasts and analysis for the yen to dollar currency pair, by clicking on the link here which will take you to my forex trading site.

The dollar yen is one of the most widely traded and liquid pairs in the currency markets, yet it is the least understood by both traders and investors alike, as it holds a unique position in the forex world with a complex mix of relationships and correlations, which are unlike any other pair in the forex market. Many traders and investors are often blissfully unaware of these, and as such have difficulty understanding the apparent irrational moves of the USD/JPY, which often appear to move in a random fashion, failing to respond to strong trends in other currencies, particularly of course in the US dollar, something which becomes clear once we begin to understand the underlying relationships that the yen to dollar has with other markets.

The first point to note with this currency pair is that in order to understand why it moves in a particular direction, we need to consider three other markets, namely US treasury bonds, notes and bills, and to understand that both interest rates and Treasury bonds are the driving forces, which in turn reflects how the market views this pair, which is principally as a instrument of risk. In simple terms, when these three asset classes rise, the the USD/JPY will fall as the logic is simply that the US will never default on its bond obligations and are hence considered to be defensive assets and therefore a safe haven. In addition of course, trading in the usd/jpy is further complicated by the fact that the Bank of Japan has an interventionist policy with regard to the Japanese yen, and as we have seen recently, they are not afraid to intervene in the markets, if they feel that the yen is under threat. This has certainly been the case in the last few months, with the Japanese yen continuing to strengthen against the US dollar, threatening the Japanese economy as exports become more expensive for overseas buyer, and damaging the fragile recovery. The most recent attempt to reverese the downwards trend failed spectacularly, with the rally only lasting a matter of days, before the trend lower was reinstated once again.

So, to trade the USD/JPY we need to consider risk, and how this in turn is reflected in the dollar yen, and the first point to note is that when the market is looking for a risk trade, then as such, Treasury bond yields will tend to rise, whilst interest rates will tend to fall, with yields correlating inversely to the USD/JPY. Yield trades are by nature risky and therefore if the markets are risk averse, then treasury bonds will rise and yields will fall, with the US dollar also tending to fall, with the USD/JPY rising as a result, which can often appear to be an irrational response. In fact this is due to the Yen’s status as a premier funding currency, and as such is generally the currency of choice for the carry trade. In this trade, speculators and investors can fund real or speculative positions by borrowing the yen at a low rate, and buying in higher yielding currencies to benefit from the interest rate differential. The relationship of the dollar yen to interest rates and the US currency is twofold although in the last few years this has changed somewhat as interest rates around the world are at historically low levels, and likely to remain there for some time to come. However, traditional theory states that when interest rates are increasing then Treasury bonds will fall which in turn should send the US dollar higher with the USD/JPY strengthening as a result. What the market is saying here, is that it is looking for better yields from treasuries and therefore a lower USD/JPY.

There is of course one further relationship that we need to consider for the USD/JPY, and that is it’s relationship to the stock market and in particular those in Asia and the Far East which once again is an inverse one. Put simply, when equity markets rise, yields will rise whilst bond prices fall, with the USD/JPY falling as a result, as investors move in to riskier assets in the form of equities, and therefore move out of their safe haven status asset classes as a result.

These are just some of the relationships that you will need to understand in order to trade the usd/jpy pair successfully. To the novice trader or the uninitiated, the USD/JPY can be a mystery, appearing to move at random and in a direction all of it’s own. The fact is, the pair are driven by a variety of market forces, but the key point is to realise that this pair is all about risk, and the market balance between “risk on” and “risk off” trading.