Yen Rises Following S&P's Downgrade

The Japanese yen is moving toward pre-intervention levels on Monday as S&P's downgrade of the U.S. sovereign debt highlights the inability of the U.S. and the Eurozone to resolve their debt problems. Presently, the U.S. dollar retreated 0.74% against the yen to stand around ¥77.89. At the same time, the euro surrendered 0.32% of its value to trade around ¥111.73. Last week, the Bank of Japan intervened in the markets in order to weaken the yen. The yen, along with the Swiss franc and gold, has been acting as a safe haven for investors fleeing the greenback and the euro as the two largest world economies – the United States and the Eurozone – are unable to find a resolution to their debt crises. Japan is an exports-driven economy, and strong yen will hurt the performance of the country's powerful exporting sector. The Japanese authorities had to intervene because without strong performance of exporters, Japan's economic recovery, following the twin natural disasters, will be under threat. In spite of the Bank of Japan's efforts, the yen rebounded quickly. The reason is that the intervention by Japan's central bank did not change market fundamentals. Following the first ever downgrade of the U.S. sovereign debt by S&P to AA+ from AAA, the debt concerns in the world's largest economy are likely to even intensify. At the same time, the rating agency left its outlook set at negative, which means more cuts could be in place if the situation with the U.S. budget deficit does not improve. The debt crisis in the U.S. has a potential to further rock the Eurozone. It will be interesting to follow investors' moves. The U.S. Treasury bonds are traditionally considered to be the safest investment. The recent downgrade might spark an exodus of traders from less safe bets, including the Eurozone periphery bonds, which could push Spain and Italy over the edge. In this environment, many traders are seeking shelter in the yen, despite efforts by the Bank of Japan to weaken the yen, and despite the country's fragile economic recovery. On Monday, the world's third largest economy posted mixed results. According to the Bank of Japan, bank lending fell 0.5% in July year-over-year, slightly down from -0.6% recorded in June. However, the July figure represents the 20th consecutive month of falling loans. At the same time, Japan's current account surplus suffered a big fall on an annual basis in July. According to the Ministry of Finance, Japan's current account surplus fell 50.2% in July, compared to a year earlier. In June, the fall was even steeper as the nation's surplus was 51.7% lower than June 2010. However, most analysts had predicted Japan's current account surplus to fall by only 39%. Some encouragement to the country's economic recovery was provided by the Economy Watchers Current Index. In July, the index rose to 52.6, beating analysts' expectations of 50. The index determines the nation's sentiment about Japan's economic activity. Any reading above 50 suggests optimism, while readings below 50 suggest pessimism. The latest data clearly indicate that Japan is recovering from the twin natural disasters that have devastated parts of Japan, creating energy shortages and supply disruptions. However, the speed of Japan's economic recovery will probably not impress many. As a result, if traders continue to seek shelter in the yen, the Bank of Japan may intensify its efforts to stop the yen from rising even higher against the greenback in order to help Japan's exporters and the country's fragile economic recovery. ACTION ITEMS:

Bullish:
Traders who believe that traders will continue to seek shelter in the Japanese yen, and that the Bank of Japan will be unable to prevent the yen from rising higher, might want to consider the following trades:

• CurrencyShares Japanese Yen Trust ETF FXY is a long play on the yen. FXY may rise if the yen appreciates.

• ProShares Ultra Yen ETF YCL is another long play on the yen. However, YCL should rise more than FXY if the yen appreciates.

Bearish:
Traders who believe that the Bank of Japan will be able to weaken the yen in order to help the country's exporters may consider an alternate positions:

• ETFS Short Japanese Yen Long US Dollar ETC (Sterling) ETF (SJPP) is a short play on the yen. SJPP may rise if the yen depreciates.

• ProShares UltraShort Yen ETF YCS is another short play on the yen. However, YCS should rise more than SJPP if the yen depreciates.

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