Yen Declines Against Euro as Bank Rescues Support Carry Trades

By Ye Xie and Anchalee Worrachate

Oct. 14 (Bloomberg) -- The yen was headed for its biggest two-day decline versus the euro in more than seven years as global government support of banks encouraged investors to buy high-yielding assets funded by low-cost loans in Japan.

Japan's currency was poised for a record two-day drop versus the Australian dollar as a $250 billion capital injection for U.S. banks raised speculation that investors will resume carry trades. The dollar fell against the euro and the pound as governments' efforts to revive bank lending reduced demand for the greenback as a haven.

``It's the unwinding of safe-haven positions,'' said Dustin Reid, a senior currency strategist at ABN Amro Bank NV in Chicago. ``The coordinated government intervention takes the probability of a 1930s-style depression off the table.''

The yen fell 1.5 percent to 140.67 per euro at 9:45 a.m. in New York, from 138.57 yesterday. It has dropped 4.3 percent over the past two days, the most since January 2001. The yen dropped 0.6 percent to 102.60 per dollar from 102.01. The euro rose 1 percent to $1.37117 from $1.3581. The pound advanced 1.3 percent to $1.7567 from $1.7341.

The Brazilian real, South African rand and Mexican peso rallied as global governments' support of banks spurred demand for high-yielding, emerging-market assets. The real rose 4.8 percent to 2.0420 per dollar, the rand gained 3.2 percent to 8.8738 and the peso increased 2.4 percent to 11.96.

Against the Australian dollar, the yen plunged 3.9 percent to 74.04, after a 10 percent drop yesterday. Australian Prime Minister Kevin Rudd allotted A$10.4 billion ($7.3 billion) in spending for home buyers, families and pensioners. The yen fell 3.4 percent versus the New Zealand dollar to 65.20 and dropped 3.4 percent to 11.74 South Korean won.

Credit Losses

Japan's currency gained 14 percent versus the Australian dollar and 9.5 percent against the New Zealand dollar this month as credit-market losses mounted.

Volatility implied by one-month dollar options against Japan's currency declined yesterday by the most since Bloomberg began compiling the data in December 1995, reducing the risk of trades in which investors get funds in a country with low borrowing costs and buy assets where returns are higher. Japan's target lending rate of 0.5 percent compares with 6 percent in Australia and 7.5 percent in New Zealand.

``Volatility has been falling broadly as we move out of a panic mode,'' wrote analysts led by Hans-Guenter Redeker, London-based global head of foreign-exchange strategy at BNP Paribas SA, in a research note yesterday. ``We expect risk appetite to stay strong, putting yen crosses under pressure.''

Drop in Franc

The Swiss franc, another funding currency in carry trades, fell 2.3 percent to 1.2278 Australian dollar and 2.8 percent to 7.8352 South African rand.

Investors should sell the franc and buy the Aussie, according to Calyon, the investment-banking unit of Credit Agricole SA.

``This is a short-term play to capitalize on the current euphoria,'' wrote Daragh Maher, deputy head of global currency strategy at Calyon, in a note to clients. ``We accept that it may not persist once the reality of economic weakness re- emerges.''

The London interbank offered rate, or Libor, for three-month dollar loans dropped 12 basis points to 4.64 percent, reflecting increased willingness of banks to lend. Stocks around the world rallied, with the Standard & Poor's 500 Index rising 3.4 percent after gaining yesterday the most in seven decades.

U.S. Bank Support

Treasury Secretary Henry Paulson urged banks receiving capital injections to use the funds to spur economic growth. People familiar with the plan said nine companies will get $125 billion: Citigroup Inc., Goldman Sachs Group Inc., Wells Fargo & Co., JPMorgan Chase & Co., Bank of America Corp., Merrill Lynch & Co., Morgan Stanley, State Street Corp. and Bank of New York Mellon Corp.

European countries committed $1.8 trillion to guarantee loans and invest in lenders yesterday. Japan and Australia pumped $9.1 billion today into money markets after European leaders agreed to guarantee new debt from financial institutions and use taxpayer money to rescue banks.

Europe's actions may not prevent the region's economy from slowing, some currency strategists and investors said. Morgan Stanley predicts a decline in the euro to $1.25 by 2009, from $1.3581 yesterday and the all-time high of $1.6038 in mid-July. Strategists at BNP Paribas see weakness after ``some support in the near term.''

``The euro was overbought, over-owned, over-rated and overvalued,'' said Stephen Jen, the global head of currency research at Morgan Stanley in London. Jen correctly predicted in July that the euro would slump just as it began to weaken 15 percent from its record. ``The strategic view has to be that a global recession will keep seeing the euro sold off.''

To contact the reporters on this story: Ye Xie in New York at yxie6@bloomberg.net; Anchalee Worrachate in London at aworrachate@bloomberg.net