By Inyoung Hwang and Bo Nielsen
(Bloomberg) – The yen may extend gains against the euro after reaching an almost one-year high on expectations European nations’ struggles to reduce deficits will discourage demand for riskier assets.
The yen rallied against all of the most-traded currencies yesterday on speculation investors will reduce carry trades, in which they buy riskier assets with amounts borrowed in nations with low interest rates. The euro fell to its lowest level versus the dollar since May even after European Central Bank President Jean-Claude Trichet said yesterday he’s confident Greece can get its deficit under control and signaled officials have no plans to raise their key interest rate from a record low of 1 percent.
“There was panic selling across riskier currencies as everyone moved to the relative safety of the yen,” said Andrew Wilkinson, senior market analyst at Interactive Brokers Group in Greenwich, Connecticut. “There must have been large orders to jump into yen, jump into the dollar.”
The yen traded at 122.08 euro at 7:07 a.m. in Tokyo from 122.20, after slumping yesterday as low as 121.59, the least since Feb. 24, 2009. The Japanese currency was at 88.94 per dollar, from 89.05. The euro traded at $1.3731 from $1.3893 yesterday, after touching $1.3728, the weakest level since May 21.

Greek Strike

The euro has lost 8.3 percent this year versus the yen and 4.2 percent against the dollar on concern Greece and other so- called peripheral nations will face increasing difficulty in curbing budget deficits that are in excess of European Union limits. “If market contagion takes hold, a break of 1.37 brings 1.3000 to the fore rapidly,” Lauren Rosborough, a senior currency analyst at Westpac Banking Corp. in London, wrote in a note yesterday.
“We expect and we are confident that the Greek government will take all the decisions that will permit them to reach that goal,” Trichet said at a press conference in Frankfurt after the ECB left its main interest rate unchanged. Proposals announced this week on freezing wages and changing the pension system “are steps in the right direction.”
Greece’s largest union is set to approve its second strike this month following Prime Minister George Papandreou’s pledge this week to raise taxes and increase the retirement age. Greece, Portugal and Spain have suffered a “permanent” decline in competitiveness since joining the euro, European Monetary Affairs Commissioner Joaquin Almunia said two days ago.

Stocks Tumble

“I would want to stay away from the euro, the eurozone and some of the emerging European currencies,” Michael Gomez, co- head of emerging markets at Newport Beach, California-based Pacific Investment Management Co., said yesterday at a conference in Moscow. “When you look at the state of balance sheets in Europe, when you look at the state of pegs and quasi- pegs across the region, that hinders the ability for adjustment.”
The yen gained versus all of the 16 most-traded currencies as stocks declined, with the MSCI World Index falling 2.9 percent and the Standard & Poor’s 500 Index dropping 3.1 percent.
“All the equities are crashing and we’re taking the lead from there,” said David Bloom, global head of currency strategy at HSBC Treasury & Capital Markets. “The markets are worried that this liquidity injection that has revitalized us all is going to wear off. Everyone is responding by buying dollars and the yen.”
Japan’s currency tends to strengthen during times of economic and financial turmoil because a trade surplus makes the nation less reliant on foreign capital. The dollar benefits from its role as the world’s reserve currency.

Employment Report

The dollar rose against 15 of its most traded counterparts before a report today that is expected to show payrolls increased by 15,000 workers in January, the most in two years, after an unexpected loss of 85,000 in December, according to a Bloomberg survey of 85 economists.
Implied volatility on one-month euro-dollar options rose to 11.5 percent yesterday, from 10.4 percent. Wider fluctuations increase the risk for carry trades, in which money that investors borrow from countries with relatively low interest rates is used to buy higher-yielding assets elsewhere.
The pound fell after the Bank of England said yesterday it will pause its asset-purchase program, while leaving open the door to buy more as the economy emerges from the recession. Policy makers also kept the key rate at a record low of 0.5 percent.
Sterling traded at $1.5786 from $1.5892. It dropped as low as $1.5732 earlier, the weakest since Oct. 13.

–Editors: Dave Liedtka, Gregory Storey

To contact the reporters on this story: Inyoung Hwang in New York at +1-212-617-7416 or ihwang7@bloomberg.net; Bo Nielsen in Copenhagen at +45-33-457-122 or bnielsen4@bloomberg.net

To contact the editor responsible for this story: Dave Liedtka at +1-212-617-8988 or dliedtka@bloomberg.net

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