The Japanese yen is starting to back down after gaining sharply against both the U.S. dollar and euro currency in recent days. Unwinding of the carry trade has artificially inflated the yen, and policymakers seem ready to let some air out.

The yen has exploded to the upside based on what’s known as the carry trade, where investors borrow in currencies with low interest rates and then buy assets in countries with higher rates. Japan’s benchmark interest rate stands at 0.5 percent, while in Europe the key lending rate is 3.75 percent, in Australia it is at 6 percent, and in the U.S., it is at 1.5 percent. This unwinding of the carry trade in recent days has spurred the yen to a 13-year high against the U.S. dollar, and a 6 ½-year high against the euro.

There is a lot of speculation going on that the Bank of Japan will intervene to prevent the yen from appreciating further, as it’s not seen as good for the economy to be so high. Exporters suffer when the currency strengthens too much. On Monday, Japanese Finance Minister Shoichi Nakagawa said the government is ready to act if needed to halt gains in the yen. The idea is the BOJ may print more yen to dilute and weaken the currency, and halt any further buying. That should pull the rug out from under it, and the yen should ease off.

Finance chiefs from the Group of Seven leading industrial nations also issued a strong statement Monday warning investors against pushing up the yen too much. “We continue to monitor markets closely, and cooperate as appropriate,” they said.

I don’t see it likely the BOJ will change interest rates at their scheduled policy meeting on October 31. The BOJ did not participate in the coordinated rate cuts by other major central banks earlier this month. But there is talk the U.S. will cut rates at it the conclusion of its meeting October 29 by as much as half a percent, and a rate cut is seen coming from the ECB next week as well.

Given this backdrop, I see the yen falling further, working its way below 100. I recommend buying December yen 100 puts at this time, for a cost of about $1,945 not including your commissions. I’d be looking for a stronger move to happen in about eight days, so I would reassess the trade then. This option expires on December 5.

Feel free to call me with any questions you have about this strategy or others to suit your particular account size and risk tolerance. Ask about our special half-off commissions offer for new clients.

Phillip Streible is a Senior Market Strategist with Lind Plus. He can be reached at 800-803-8037 or via email at pstreible@lind-waldock.com.

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