Yen Breaks 106 As Recession Fears Intensify- Any Bottom in Sight?

Talking Points

• Japanese Yen: Breaks 106 as equity markets reel
• Euro: Consolidates around 1.4800, still pressured by EURJPY sales
• British Pound: Employment wages relatively in line, but risk aversion hurts cable
• US Dollar: CPI and TICs on tap

Yen continued to strengthen in overnight trade as fears about the looming US recession and possible global economic slowdown turned all of the major equity indices red, prompting further unwinds of the carry trade. The Nikkei dropped -468 in the wake of yesterday’s Dow fall of -277 points and dragged other stock indices in the region down as well with Shanghai and Australia also ending lower on the day.

With global financial markets in full retreat risk aversion is the dominant theme of the day, as currency traders have generally ignored the day to day economic releases, and continued to liquidate all the high yielding currencies. As a result the dollar has actually strengthened or managed to stay even with the euro and sterling but continued to lose ground against the yen.

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Greenback’s strength however is illusory. If US economy does make a hard landing the easing cycle from the Fed will be far more accommodative and will continue for much longer than most market players believe. In fact some die hard bears are suggesting that US monetary policy will have to end in its own version of ZIRP before the massive write-offs from the sub-prime fiasco are fully monetized allowing the US economy to recover.

Regardless of whether this doomsday scenario comes to pass, the present path of US interest rates is clearly down and that reality should once again reassert itself on the currency market once the latest wave of carry liquidation washes away. With EZ headline inflation data remaining well above 2.05 target rate at 3.1% , the ECB will continue to tow hawkish line and if the Fed lowers rates by 50bp this month the EZ/US rates will be skewed to the EZ side for the first time since the last recession in 2001-2002. That in turn will push the dollar lower as yields continue to shrink.