Date: 10 Aug 2017

Rising tensions in the Korean peninsula prompted some notable moves on the currency markets on Wednesday as risk aversion asserted itself. While it might seem counter-intuitive given Japan’s proximity to North Korea, traders purchased the yen as a safe haven on the ratcheting up of tension between Pyongyang and Washington. But, as US firm BNYMellon wrote on Tuesday, “the JPY, in particular, has developed a reputation for performing well during bouts of risk aversion.” The US bank mentioned the examples of “October 1998 (following the Russian crisis and the collapse of Long Term Capital Management), July 2007 (marking almost exactly the start of the financial crisis), August 2008 (ahead of the collapse of Lehman Bros) and April 2013 (on the day North Korea warned that Tokyo would be the first target in the event of a war on the Korean Peninsula). At its most extreme this tendency towards JPY strength in the face of risk aversion forced multi-lateral intervention by major central banks in March 2011 following the tsunami.” Two factors, either separately or together, characterise each instance, positioning and repatriation. Anyone who was trading USDJPY at a yen house in October 1998 would have felt that short yen positioning was extreme. Consequently the demand for yen, if not the scale and pace of the move, as LTCM positions were unwound, involved wholesale liquidation of yen-funded trades. Yen had to be bought. As recent data from the US Commodity Futures Trading Commission (CFTC) has been showing, there is/was an existing large short yen position in the market as August began. In such a situation Korean tension-related position unwinds lent themselves to yen strength But there’s a subtle difference between buying yen for its inherent value and having to buy back yen, even if in reality the price action embodies both drivers. The first creates a long yen position, the second reduces or eliminates a short yen position. Yet, positioning aside, there’s also a Japan-specific factor that traders need to understand. Japan has long been a big investor internationally. When the Nikkei was soaring in the 1980s, Japan was a big seller of yen to buy the dollars with which to purchase trophy assets such as US real estate. Equally when times are hard or it is perceived that they may be hard for Japan, Japanese investors bring money home to the motherland. That was a key driver of yen strength in the immediate aftermath of the 2011 tsunami. The more traders can understand the interplay of positioning and the specific way Japanese investors tend to react to events that might disadvantage Japan, the easier traders will be able to read the way the yen might trade in moments of tension and indeed as those tensions abate.

Japan has long been a big investor internationally. When the Nikkei was soaring in the 1980s, Japan was a big seller of yen to buy the dollars with which to purchase trophy assets such as US real estate. Equally when times are hard or it is perceived that they may be hard for Japan, Japanese investors bring money home to the motherland. That was a key driver of yen strength in the immediate aftermath of the 2011 tsunami. The more traders can understand the interplay of positioning and the specific way Japanese investors tend to react to events that might disadvantage Japan, the easier traders will be able to read the way the yen might trade in moments of tension and indeed as those tensions abate.
Written by Neal Kimberley, External Currency Analyst.