Confusing signs continue to come out of Greece concerning its PSI (Private Sector Involvement) debt-swap, in which creditors are to accept around a 50% writedown in the value of their bond holdings. This issue is of paramount importance because the debt swap between creditors and the Greek government must be sealed before the troika will issue further financial aid for Greece.
Greece has faced a drop in recent state revenues that has resulted in a double-digit budget deficit and continues to experience domestic unrest as a result of its implementation of austerity measures. A pivotal March 20 deadline is edging closer; Greece faces an $18.9 billion bond repayment on this day, and it will most certainly default if it does not receive financial aid from the troika.
Recently, encouraging signs of a debt swap deal have surfaced, with Greek Prime Minister Lucas Papademos seeking a debt deal by the end of the week. However, this positive development has been coupled with news that creditors and bondholders, led by the head of the Institute of International Finance, Charles Dallara, are hardening their positions on a 3.8 to 4 percent interest rate on Greek bonds. Moreover, news has been leaking out that German Chancellor Angela Merkel, one of the EU leaders spearheading the containment of the European sovereign debt crisis, believes that Greek will eventually default. This mixed bag of economic signals and news has left investors in a whirlwind of doubt, leading them to one of the few bastions of stability in economic uncertainty: the Japanese Yen.
As Tom Molloy, chief dealer at FX Solutions, notes, "Everybody likes the yen because it's not the euro."
Indeed, the yen is surging. In fact, on January 30, it jumped to the highest level in five months against the dollar and gained more than 1% against the euro. This is incredible, considering the fact that the Bank of Japan has intervened multiple times to try and deflate the strength of the yen, only to see the price rise back up to new highs. Investor appetite for the yen can be show through the October 31 Bank of Japan intervention: immediately after the intervention, the USD/JPY rate was boosted to 79.55, only to plummet to 77.8 within hours. Now, the USD/JPY rate has fallen to the lowest levels since the intervention, highlighting the huge investor demand for the yen.
Investors also believe in the yen because Japan maintains a current account surplus which makes it less reliant on overseas borrowing and results in the Japanese yen performing well in times of worldwide economic duress and instability. Moreover, strong currency alternatives to the yen are increasingly harder to come. The Swiss franc is soaring, but the Swiss National Bank has recently declared a new price ceiling for the franc against the euro, a move which limits the potential upside of the franc's performance. Meanwhile, the U.S. dollar is still struggling to gain traction after the Federal Reserve's policy decision to keep borrowing costs low until 2014.
This demand for the yen should cause investors to heavily consider not only investing in the yen itself, but also ETFs and ETNs correlated to the strong performance of the yen, such as the CurrencyShares Japanese Yen Trust ETF (FXY), WisdomTree Dreyfus Japan Yen ETF (JYF), iPath JPY/USD Exchange Rate ETN (JYN), and ProShares Ultra Yen ETF (YCL). All of these ETFs/ETNs have surged back to near 52-week highs and are poised to break out; they are excellent investments that will directly benefit from the continued economic uncertainty and gloom. With that said, another Bank of Japan intervention is imminent, one which will momentarily sink the levels of the yen. That is why I strongly advise investors to jump into the yen or yen-linked ETFs in immediately after an intervention. The European sovereign debt crisis is showing no signs of abating anytime soon, and investors will continue to flock to stable investments such as the yen.
Also, the soaring yen should instill wariness in investors that are considering potential investments in Japan. Investors should stay away from companies that depend on an export-driven market, which will be adversely affected by the strength of the yen. In fact, major Japanese companies, especially car manufacturers such as Toyota (TM), Honda (HMC) and Nissan (OTCPK:NSANY) are ramping up capacity in their U.S. plants in order to lessen dependency on exports from their Japanese plants.
These decisions are at the forefront of an exodus of manufacturing jobs from Japan which has resulted in its first annual trade deficit in 31 years. Japanese companies, especially multinational conglomerates, are going to be adversely affected by the strong yen, and investors should approach Japanese companies with caution.
This article updates the previous article I wrote concerning the upside potential of the yen on January 8, 2012.