Fundamental Forecast for Japanese Yen: Neutral

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The Japanese Yen appreciated more than 5% against its major counterparts following the panic in the financial markets, while the USD/JPY tumbled to a low of 88.21 on Thursday to mark the biggest decline since October 2008. As a result, the low-yielding currency may continue to strengthen over the near-term as investors scale back their appetite for risk, but the corrective retracement in the Japanese Yen cross rates may carry into the following week as the relative strength index bounces back across the board.

Meanwhile, the Bank of Japan is scheduled to release its April meeting minutes on Monday, and the central bank is likely to maintain a cautious outlook for the region as the appreciation in the exchange rate continues to weigh on the prospects for future growth. BoJ Governor Masaaki Shirakawa said that deflation remains a “critical challenge” after holding the benchmark interest rate at 0.10% last month, but went onto say that export-led recovery remains intact, driven by the “high growth in emerging economies.” At the same time, the central bank head said policy makers should explore additional ways to encourage lending “with a view to strengthening the foundations for economic growth,” and went onto say that the BoJ “hopes to give a boost to such efforts with new policy measures.” As a result, market participants see scope for the governing board to expand policy further over the coming months as the government struggles to balance the risks for the economy, but Mr. Shirakawa warned that “downward pressures on the economy might arise through adverse effects on financial markets” as the government implements “large-scale fiscal policies.”

As the BoJ is widely expected to maintain a loose policy stance throughout the second-half of the year, the Japanese Yen is likely to retain its strong correlation with risk trends as it remains the most popular funding-currency amongst the majors. Nevertheless, a rise in risk aversion should drive the low-yielding currency higher over the following week, and the USD/JPY may continue to retrace the advance from the 2009 low (84.82) as market participants unwind their high risk/reward investments. However, the central bank may look to intervene in the currency.

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