The yen is poised to rally against the dollar as investors overestimate the amount of stimulus from the Bank of Japan, according to Royal Bank of Canada.
Global investors have been using weakened yen to employ the so-called carry trade -- buying high-yielding assets, with money borrowed in countries with low interest rates, said George Davis, chief technical analyst for fixed income and currencies in Toronto at the bank’s RBC Capital Markets unit.
Investors have purchased Japanese and U.S. stocks as the yen tumbled 15 percent against the dollar and the euro during the past six months, Davis said. This has helped the Standard & Poor’s 500 Index and the Nikkei 225 Stock Average return 9 percent and 42 percent, respectively.
“The market is pricing in extraordinary amount of easing from the Bank of Japan, and there is a real risk that they will under-deliver,” Davis said. “Investors have benefitted from the carry trade, but a stronger yen will diminish that opportunity, ultimately weighing on stocks.”
Japan’s central bank may say tomorrow it will boost monthly bond purchases by about 50 percent to 5.2 trillion yen, according to the average forecast in a survey of economists by Bloomberg.
The yen climbed 0.5 percent to 92.94 per dollar today in New York, after losing 0.2 percent yesterday.
The main risk to the carry trade is that adverse currency moves or heightened volatility wipe out profits generated by the difference in returns.
Japanese stocks have risen since Japanese elections were announced in November, amid optimism new Prime Minister Shinzo Abe’s government and the Bank of Japan will take more steps to beat deflation.
“While the Japanese are serious about combating deflation, they would need to perform extraordinary measures, like buying foreign bonds, to justify the market’s perception of what they may do,” Davis said. “They are more likely to be more cautious, preferring to save their bullets instead of using them all at once, and that will take some steam out of the dollar rally against the Yen.”
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