At the start of this past week, many were wondering if the Japanese yen had lost its safe-haven status, as the currency pulled back sharply despite broad declines in the stock markets.

Looking at the shorter term, trends in market risk sentiment remain an important driver of Sterling price action.

The British pound finished the week lower against the US dollar, as comments by Bank of England Governor Mervyn King and the minutes from the central bank’s last meeting added to evidence that another rate cut was on the way.

A clear mprovement in global risk sentiment left the euro marginally higher against the Japanese yen and US dollar, but its losses against other key counterparts underline the case for further declines.

The British pound was the strongest of all the majors last week, as the currency trades in a highly speculative manner and attempts to recoup the massive losses accumulated between October 2008 and January 2009.

Flare-ups in financial market tensions and well-publicized sovereign debt downgrades of three European Monetary Union member countries were the primary drivers of euro losses.

A year ago, the most risk-sensitive currency was probably the high-yielding Australian or New Zealand dollar as yields were the primary source of speculation for traders. However, this dynamic has changed as global interest rates have trended towards zero while liquidity and fundamental stability have become a valuable commodity.

The US dollar ended the week mixed across the majors, as the currency tumbled against the British pound, which was strong across the board, but also slipped versus some of the commodity dollars on a brief pick up in risk appetite.

Traders should keep in mind that the European Central Bank is still anticipated to cut rates yet again on January 15.

Risk aversion is the key to the Japanese yen’s path over the next few weeks and into the beginning of 2009.  However, the ebb and flow in market sentiment will be far from straightforward.  Heading into the end of the year, liquidity will put an unusual spin on volatility and the demand for a safe haven currency.