Japanese Yen Continues to Fall, Pushing Carry Trades Higher
Demand for carry trades continue to be strong with the Japanese Yen falling to a new record low against the Euro and decade or multi-decade lows against other currencies. Optimism about global growth following last week’s US non-farm payroll numbers has everyone riding happily on the carry trade bandwagon. The rallies are becoming overextended of course and the risk of some action by the Japanese government is increasing, but until carry traders have a reason to bail, they probably will not. There is no major US economic data due for release until Thursday. Between now and then, carry trades could react to the heavy Japanese economic calendar that includes the current account, CGPI, consumer confidence, and the Bank of Japan interest rate decision. Part of the reason why the Japanese Yen has been performing so poorly is the fact that the interest rate curve is not pricing in a rate hike this week. However with the stock market rising and oil prices increasing, the Japanese government may want to shore up some demand for the Yen by hinting that they are looking to raise interest rates in the months to come. We are finally beginning to see some signs of growth with machinery orders increasing 5.9 percent in the month of May.

Unfortunately there is a limit to how much benefit the weak yen can bring to the economy. What Japan really needs is for the increases in corporate profitability to translate into increased wages for employees because consumer confidence remains weak. The latest Eco Watchers survey reported the third consecutive monthly drop. If the man on the street is pessimistic about growth, how much are they really expected to spend?

Canadian Dollar Hits Another 30 Year High – Are We Near a Bottom or Headed for Parity?
Despite the lack of Canadian economic data today, the demand for the currency was so strong at the onset of European trading that the Canadian dollar hit a new 30 year high against the US dollar. The Bank of Canada is expected to raise interest rates tomorrow to 4.50 percent and the government’s nonchalant stance on the currency’s persistent rise leaves the risk for hawkish comments open. Although it is difficult to fade CAD strength after seeing the strong employment figures on Friday, the sharp intraday reversal in USD/CAD suggests that bottom pickers are out in force. If the Bank of Canada does so much as hint that this upcoming rate hike will be the last, it will probably be enough to cement a bottom in USD/CAD. For more on the BoC rate decision, see our Canadian dollar special. Housing starts are also due for release tomorrow, but that will take a back seat to the rate decision. Meanwhile the Australian dollar hit a fresh 18-year high today thanks to a sharp rise in gold and copper prices. Unlike the Australian dollar, the New Zealand dollar is really struggling at current levels. Strong two way action at the pair’s 25 year highs indicates that the next breakout will be a big one.

US Dollar Holds Steady Ahead of Bernanke’s Inflation Speech
With no US economic data released today, the US dollar traded in a tight range ahead of tomorrow’s speech by Federal Reserve Chairman Ben Bernanke. The topic is inflation and with oil prices solidly above $70 a barrel, the risks are clearly skewed to the upside. When oil prices were above $70 exactly one year ago, inflation shot up globally. There is no reason for pricing pressures to be different this time around. In fact, the dollar is weaker now than it was then on a trade weighted basis, which means the inflationary pressure could be even greater. Strong and tough words by Bernanke could drive further dollar strength, especially against the Japanese Yen. If the market fails to react to Bernanke’s comments because it has completely priced it in, expect more quiet range trading in the US dollar until we get the trade balance on Thursday and retail sales on Friday.

British Pound Holds 2.0 Despite Softer Inflation Data
After selling off throughout the past week, the British pound shrugged off softer producer prices to hold steadily above the psychologically important 2.0 level. Comments from Bank of England officials suggest that even though price pressures have fallen in the month of June, the inflation risk remains to the upside. Even the typically dovish Blanchflower chimed in on the high level of money supply growth. The Bank of England clearly sees this as a temporary slowdown and not a permanent one. This attitude suggests that the minutes from last week’s monetary policy meeting should reveal continued hawkishness. Retail sales, the trade balance and leading indicators are all due for release on Tuesday along with comments from Bank of England policy member Sentence. Expect more action in the GBP/USD.

Little Action in Euro; Strong Gains in Swiss Franc
The Euro was unchanged against the US dollar today thanks to stronger than expected economic data. The German trade surplus increased from 15.0B to 17.5B. Both imports and exports were lower, but the larger drop in imports drove the overall trade surplus higher. Industrial production for the same month was right in line with expectations, but the April figures were revised higher. With only French and Italian industrial production due for release tomorrow, the Euro should move almost exclusively on the market’s reaction to US Fed Chairman Bernanke’s comments on inflation. Meanwhile even though there was no Swiss data released overnight, the Franc has performed extraordinarily well. The interest rate curve is pricing in two and possibly even three quarter point hikes by the end of the year. The divergence between Swiss and Japanese interest rate expectations is the exact reason why CHF/JPY hit a new 16-year high today.

Kathy Lien is the Chief Currency Strategist at FXCM.