U.S. Markets open in 9 hrs 11 mins

Is it Time to Buy the Yen?

Chad Karnes

The currency wars have "officially" started and the Yen is the first official host.  On 1/16 Russia's First Deputy of their central bank warned," the world is nearing currency war as Europe joins".  This week it is Germany sounding the alarm, warning it will pump "excessive liquidity" into banks. 

Of course this is not the first time "currency wars" were front and center in world theatre, in reality they have been around as long as world trade. 

The abandoning of the gold standard (GLD - News) in the 1930's allowed the ability to devalue currencies and make currency wars easier.  The Bretton Woods Act, just after World War 2, set exchange rates at semi-fixed levels which limited competitive devaluation (one of the act's designed purposes).  The Plaza Accord in the 80s helped the United States competitively devalue its currency as the major world economies (Japan, West Germany (EWG - News), United Kingdom (EWU - News), and France (EWQ - News) agreed to a weaker dollar (UDN - News).  The list goes on and on.

Japan (EWJ - News) is just the focus of attention right now. 

Jawboning Japan

The definition of Jawboning (otherwise known as moral suasion) is, "an unofficial technique of public and private discussions and arm-twisting, which may work on the threat of future government regulation".  In other words, it is an attempt to try to sway interests through the use of words, and is usually the step before actual action.

Nine times out of ten Jawboning's means of communication is through the media and it shows below.

Ye Ole Faithful Media

In late December after the Yen (FXY - News) had already fallen 10% in 3 months, the faithful news started touting that the new regime in Japan was inflationist and "more than Keynesian".  Lots of jawboning after the Yen was already down over 10% in three months, and the ProShares UltraShort Yen (YCS - News) was already up over 25%.

  • "Yen hits fresh two-year low and seen staying weak" - NBCNews 12/28 (from Reuters)
  • "Yen hits 2-year low on new Japan govt expectations" - CNBC 12/27 (from Reuters)
  • "Yen hits 2-year low on expectations for bold BOJ easing" - Morningstar 12/27 (from Reuters)

In an interesting side note, most "news" on the Yen from trusted "news" sources has all come from Reuters.  Jawboning in this day and age is easy!  Just make one phone call to Reuters!

The Chicago Tribune and Pakistan Daily Times take it one step further announcing that "more losses are likely".  Oh, really?  Wait, these sources were from Reuters, also.  Now that is good, unbiased multiple sourced journalism!

  • "Yen hits two-year low vs dollar, more losses likely" - Chicago Tribune 12/27 (from Reuters)

But notice, these news articles were not to be found, at least not near as plentiful in early fall when the regime change rumors started or when the Yen was topping, only after the Yen had fallen significantly did the media catch on, and that presents opportunity.

If you follow our work, you will note that we often used the media and mainstream as contrarian investment signals.  Why?  Because it works. 

On 10/19 we identified that the consensus opinion was getting too bullish as Barron's for example had its cover page tout "DOW 14,165".  We warned in the ETF Profit Strategy Newsletter, "The lack of confirmation (of the uptrend) of market internals such as breadth and sentiment continues.  We are waiting for prices to maintain below the Fed support zone @ 1430 (SPY - News) to give us a signal an intermediate top is likely in."  Less than a week later, on 10/23, that breach occurred saving investors a lot of headaches as the market fell 8% from its high of 1475 (^GSPC - News) down to 1343 on 11/16. 

We expect a Bounce Here                                                               

But the contrarianism doesn't stop with the press.  Investor sentiment is also a great indicator for market extremes.  When the majority are uber-bearish it is often time to buy.  And when the majority are uber-bullish it is often time to sell. 

Extreme bearishness and bullishness happens quite often.  Famous examples of extreme bullishness were the internet stocks (QQQ - News) in the late 90s, gold (IAU - News) in the late 70's, and more recently Apple (AAPL - News) in 2012.  The crowd was all in, and that was a great signal.

Right now, the crowd is extremely bearish the Yen, reaching levels not seen in the last five years.  Bearishness like that often results, at a minimum, in a tradable bounce in the investment.

Other indicators of a bearish extreme in the Yen, are the "smart money indicators" we follow.  Right now the smart money is "longer" than it has been in five years.  Historically the smart money eventually is correct and the last time the smart money was this long was when FXY was at $90, right before a 40% rise to its highs of $130.                                                                                                                               

One Final Reason a Buy Signal is Likely Soon

The chart is aligning with the sentiment, and that provides a high probability profit setup.

The chart below was one of a few provided with commentary to subscribers in our 12/30 Technical Forecast and in our just released February ETF Profit Strategy Newsletter that identified the Yen setup and the price levels where a trend change would be confirmed. 

On 12/30 we highlighted, "The Yen's sentiment is out of control and hit a 5 year low this past week.  The previous bearish sentiment extreme occurred at the March 2012 price low of $117 on the FXY.  We can see in the chart below that prices eventually bottomed on that sentiment extreme in March 2012 and rallied $10.  The key is to wait for the technicals to confirm." 

Once the technical breakout is confirmed (subscribers have these levels) we expect at least a quick 5% move in the currency.  We also identified why Japanese stocks would also move, the price levels where they (EWJ - News) could be sold, and locations for stops.  The ProShares UltraShort Japan (EWV - News) could also be purchased or the ProShares Ultra Japan (EZJ - News) could be shorted to take advantage of the expected move. 

We show you how to read the chart, the breakout prices, and stop levels.

When the technicals align and sentiment is extremely bearish, the risk of loss is lower, and that excites us.  FXY could carry as far as 116 in this bounce where Fibonacci and other resistance likely would come into play.  The Ultra Yen (YCL - News) could reach $30.  But there's still one final missing piece for the Yen trade to take offf.

The ETF Profit Strategy Newsletter monitors global events and formulates high probability trades based on fundamental, technical, and sentiment research.

More From ETFguide.com