Yen Off to Worst Start Since 2000 as Economy Shrinks

By Matthew Brown and Kim-Mai Cutler

Feb. 25 (Bloomberg) -- The yen is off to its worst start in nine years against the dollar as Japan’s tumbling exports and the fastest economic contraction since 1974 end a rally sparked by investors seeking a refuge from the financial crisis.

The currency slumped 6.4 percent against the dollar this year as global stock markets extended 2008’s losses. Last year, it rose the most of 171 currencies tracked by Bloomberg, climbing 23 percent versus the dollar and 29 percent against the euro, as equity markets around the world collapsed.

The biggest currency traders are calling an end to the yen’s gains as Japan’s economy, the world’s second-largest, sputters. Gross domestic product shrank at an annual 12.7 percent pace in the last quarter, the government said last week. The trade deficit widened in January to the most in more than two decades as exports plunged 46 percent, the Finance Ministry said today.

“With Japan’s trade data deteriorating sharply now, the Japanese yen is finally following suit,” Mansoor Mohi-Uddin, chief currency strategist at UBS AG, the world’s second-largest foreign-exchange trader, wrote in a note to clients today. “Japan’s currency potentially has a lot further to slide if investors stop perceiving the yen as a safe haven and trade the currency instead on Japan’s worsening export numbers.”

‘Lost Luster’

Bob Parker, who helps oversee $600 billion as chairman of Credit Suisse Asset Management in London, and bought the dollar when it traded between 88 and 90 yen, said there’s a “reasonable probability of a breakout” that will drive the yen down 3 percent to 100 per dollar. Win Thin, a senior currency strategist in New York at Brown Brothers Harriman & Co., Firas Askari, head currency trader in Toronto at BMO Nesbitt Burns, a unit of Bank of Montreal, and Kathy Lien, director of currency research at GFT, an online currency trading firm, are also betting the yen will weaken to 100 per dollar.

“The yen has lost its role as a safe haven currency,” said David Bloom, global head of currency strategy in London at HSBC Holdings Plc, Europe’s largest bank. “Ever since the GDP numbers came out, it lost its luster.” HSBC economists cut Japan’s growth forecast and expect a 6.6 percent contraction this year, Bloom said.

The currency traded at 96.96 per dollar as of 2:22 p.m. in London, after dropping 2.1 percent yesterday. It fell to 97.33, the weakest level since Nov. 25. The yen was also at 124.04 per euro, after losing 3.4 percent yesterday.

‘No Turning Point’

Japan’s economy shrank by 4.6 percent year-on-year in the last quarter, the government said last week. It may contract 2.6 percent in the first quarter, according to the median forecast of 17 economists in a Bloomberg survey.

On a trade-weighted basis, the yen is still 13 percent cheaper than its all-time high set in 1995, according to the Bank of England effective exchange rate on the yen. When the Standard & Poor’s 500 Index fell to a 12-year low of 741 on Nov. 21, the yen traded at 95.96. The S&P index rose to 773 yesterday in New York.

“We’re not at a turning point for the yen, medium-term,” said Adam Boyton, a senior currency strategist in New York at Deutsche Bank AG, who predicted the yen will rise to 85 per dollar by year-end. “We’re moving into a world of yen strength, reflecting Japan’s strong external position and current-account surplus, and a very large net foreign-asset position.”

Japanese mutual funds held 20.71 trillion yen ($214 billion) in foreign assets at the end of January, according to Japan’s Investment Trust Association.

Export Pain

The yen’s gains hurt companies such as Nissan Motor Co. Ltd. and Toyota Motor Corp., the world’s largest automaker, amid Japan’s increased reliance on exports for growth. The country shipped 21 percent of its goods abroad in 2008, up from 16 percent in 1998, according to the Bank of Japan.

Nissan said this month it will fire 20,000 workers and post its first loss in nine years as demand plunges. Toyota, which forecast its first operating loss in seven decades, will cut production by 50 percent in the current quarter from last year.

The yen is also being hurt by political deadlock and falling approval ratings for Prime Minister Taro Aso, which are reducing the ability of the government to tackle the economic crisis.

A split between the two houses of government, with the opposition in control of the upper house, “is really going to be problematic down the road,” said Andrew Busch, a global currency strategist in Chicago at BMO Capital Markets, a unit of Canada’s fourth-largest bank.

Stocks Correlation

Aso’s approval rating fell 6.8 percentage points from last month to 11.4 percent, while his disapproval rating rose 8.8 points to 80.2 percent, a Sankei newspaper survey conducted with Fuji News Network showed yesterday. The governing Liberal Democratic Party has the support of 21.9 percent, compared with 25.9 percent for the opposition Democratic Party of Japan.

The yen’s decline signal the currency’s inverse relationship with stocks may be breaking down. The correlation between the dollar-yen and the Nikkei-225 Stock Average was minus 0.89 since Feb. 16, when the government’s GDP report was published. The relationship was positive 0.86 in the 12 months to Feb. 16. A reading of 1 would mean the two moved in lockstep.

The relationship between stocks and the yen has been in place since the beginning of 2005, when the so-called carry trade was established, according to Derek Halpenny, European head of global currency research at Bank of Tokyo Mitsubishi Ltd in London, which said at the end of January that the yen would start to weaken.

In the carry trade, investors buy higher-yielding currencies with lower-yielding ones, such as the yen. The yen gained 30 percent against the dollar from June 22, 2007, to Dec. 17, 2008, as the trade all but evaporated.

“It’s still a debate whether the breakdown is temporary or permanent, but we’re making new lows,” said Thin at Brown Brothers. “The pessimism remains strong in the market.”

To contact the reporters on this story: Matthew Brown in London at mbrown42@bloomberg.net; Kim-Mai Cutler in London at kcutler@bloomberg.net