Buoyed by rising prices in the corporate service sector which hit a nine year high, the yen finally saw some unambiguous strength in the currency market with a number of factors contributing to its rally. Earlier in the day, the Corporate Service Price Index rose to 1.4% from 1.1% the month prior registering a positive price increase for 11th consecutive month in a row. The news suggests that all traces of deflation which has plagued Japan for more than a decade have been squeezed out of the system and opens the way to a more aggressive monetary policy by the BoJ.

In addition to the positive economic data, the yen was boosted by comments from FinMin Omi warning about the one way bets in the carry trade. According to a report in Nikkei Financial deputy minister Hiroshi Watanabe and international division head Naoyuki Shinohara met in mid-June to discuss FX policy and decided that further weakness in the yen was not productive and Mr. Omi decided to communicate those sentiments to the markets at large. As we noted last week 125.00 appears to have been the concrete ceiling for the USDJPY as even Japanese officials recognized that continued weakness in the currency has created such massive imbalances in trade and capital flows that it could lead to unwanted volatility in financial markets and political reprisals from Japan’s key allies in US and Eurozone. It was also announced that Mr. Watanabe who has been viewed as a yen dove throughout his tenure as “Mr. FX” by the market will be replaced by Mr. Shinohara and that bit of news may have also contributed to yen buying tonight.

It is still unclear whether the BoJ will expedite its tightening monetary policy in the next few months, and tonight’s events may simply be another one in a series of “pauses that refresh” in the continuing uptrend of the carry trade. Indeed while the greenback and the euro were lower against the yen, the high yielders such as the Aussie and the kiwi barely gave way. Nevertheless, with the possibility of further declines in US equities on fears of weakening housing sector and the chance of relatively strong Japanese economic data by the end of the week, the prospect of further yen gains remains favorable. Carry trade liquidation tends to be sudden and swift as speculators bail out of their positions en masse. If tonight is in fact the start of another round of profit taking in the carry, USDJPY could target 120.00 by the end of the week .

Boris Schlossberg is a Senior Currency Strategist at FXCM.