Strong trends seem to always be surrounded by controversy. The current debate about the strength of the Japanese yen is no exception. The debate has become even more interesting over the past week as Japan has intervened in the currency markets in an attempt to halt the rise of the yen, which is causing problems for their export-reliant economy.
As shown in the chart below, the CurrencyShares Japanese Yen Trust (FXY) is currently +8.19% so far in 2010.
Many of the arguments on both sides of the debate were summarized in a recent Wall Street Journal article, “Bank of Japan’s Maverick Move Not a Sure Bet” on 9/16/2010.
It was noted that on Wednesday, 9/15, there was a wave of foreign-exchange market intervention by Japan estimated at $20 billion which sent the dollar sharply higher against the yen. However, it was also noted that currency trading is now a daily $4 trillion affair and that the daily trading in the dollar-yen market alone is now $568 billion. So, how much effect is the intervention of the Japanese government going to have in reversing the trend of their currency?
Among the arguments for why the yen will continue to appreciate is the fact that China is now buying Japanese bonds. Furthermore, last time Japan intervened in the currency markets in 2004 it pumped 35 trillion yen into the markets, or about $320 billion in exchange rates at the time. In the end, intervention changed little, with the yen trading roughly where it did at the start of the operation. However, in 1995 when the yen hit a high of 79.75 against the dollar, Japan also intervened. Within a month the yen had weakened 8% and by the end of 1995 it had weakened 23%. Hmm, so there have been times when Japanese intervention seems to have been effective and times when it seemed to have little effect. Which will it be this time? There are many other factors at play, including the political pressure that Japan may receive from other members of the Group of Seven richest economies, of which Japan is a member, to refrain from currency intervention since nobody seems to want a strong currency.
This is just the another example of the complexity of issues surrounding strong trends. Trying to trade them as if you were judging a debate is likely to result in total frustration. There are so many influences on the supply and demand relationship that it is nearly impossible to give adequate weight to each of the factors at play and then to properly manage the trade.
Trend followers take a much more pragmatic approach: Stay with strong trends as long as they remain strong and exit the trade when the trend sufficiently reverses. Conceptually simple, but effective.
