Leverage Cap on Trading May Curb Most Volatile Yen Since May: Japan Credit

Tighter regulations on currency trading in Japan are coming just in time to help to Finance Minister Yoshihiko Noda rein in a yen that’s the most volatile in more than two months and trading near a record high.

Debt used to boost trading bets, or leverage, will be capped at 25 times an investor’s committed cash from Aug. 1, down from 50 times a year earlier, according to rules set by the Financial Services Agency in 2009. The cap may decrease cases where automatic orders are triggered, helping mitigate currency swings, said Daisaku Ueno, president of Gaitame.com Research Institute Ltd.

“If the leverage is lower, there will be wider leeway until a currency reaches a level that triggers a stop-loss,” said Tokyo-based Ueno, whose company is a unit of Japan’s largest online currency broker. “Even if individual investors’ positions were targeted in thin early morning trading in Tokyo, the scale would be smaller.”

Volatility implied by one-week dollar-yen options reached 11.44 today, the most since May 5. Concerns the strong yen will stifle export-led growth has helped drive a rally in domestic bonds, sending yields on 10-year notes yesterday to within one basis point of this year’s low.

Trading in the yen has been “one-sided” and he’s monitoring financial markets closely Noda said this week. Concern about possible defaults in Europe and the U.S. boosted demand for Japan’s currency as a refuge. The yen’s strength could damage the economy and the Bank of Japan will take proactive policy actions when necessary, central bank board member Hidetoshi Kamezaki said on July 27.

Stop-Loss Trades

The Japanese currency surged 3 yen against the dollar in about 20 minutes of early overseas trading on March 17 amid speculation companies would have to repatriate assets to pay for rebuilding from a record earthquake days earlier. Individuals who had short positions on the yen were forced to close them out with stop-loss trades -- preset orders to buy or sell at a certain level to limit losses -- accelerating the yen’s gain to a postwar record of 76.25 per dollar.

Group of Seven nations intervened to curb the yen’s appreciation the following day, saying in a statement they wanted to reduce “excess volatility and disorderly movements.” Japan unilaterally sold yen in September, the first time it had done so since 2004.

Twenty-seven percent of Japanese investors said they will reduce the volume of their trading after the tighter leverage rule is imposed, while 1.6 percent said they will quit trading altogether, according to a survey this month by Gaitame.com. Another 15 percent said they will maintain their current volume of trading by increasing deposits into their margin accounts.

Risk Reversals

The yen has climbed 3.9 percent against the dollar in July, trailing only New Zealand’s dollar and the Swiss franc among major currencies. Growing demand for yen calls, or rights to purchase the currency, indicate the currency could climb higher.

The premium for one-month 25-delta yen calls over yen puts, known as the risk-reversal rate, reached minus 1.84 percent today, the widest margin since March 17. The negative number indicates higher demand for the calls.

“The yen is more likely to exceed the record high anytime,” said Daisuke Uno, Tokyo-based chief strategist at Sumitomo Mitsui Banking Corp., which manages $952 billion in customer deposits. “The yen’s strength against the dollar amplifies the attractiveness of yen-denominated assets.”

Bond Rally

Japan’s government bonds have returned 6 percent in the past three months for investors who converted their proceeds into dollars, compared with 2.5 percent from Treasuries, indexes compiled by Bank of America Merrill Lynch showed.

The yield on Japan’s 10-year government bond was at 1.085 percent as of 1:06 p.m. in Tokyo. It reached 1.06 percent on July 19, the lowest since November. That compares with 10-year rates of 2.95 percent in the U.S. and 2.63 percent in Germany.

The FSA enacted the leverage standards to protect against excessive losses for customers and to aid in risk management in the financial industry, the agency said in 2009. There was previously no official limit on leverage in currency-margin transactions.

The tighter leverage rule may reduce trading among individual investors who “buy on dips and sell into rallies,” with high frequency, leading to higher volatility in “normal times,” Gaitame’s Ueno said.

Mrs. Watanabe

Foreign-exchange margin trading surged in popularity in Japan since its deregulation in 1998 as investors sought higher returns overseas than the world’s lowest interest rates offered at home. The traders collectively came to be called “Mrs. Watanabe” based on common surname and because housewives in Japan traditionally control household finances.

Bank of Japan Deputy Governor Kiyohiko Nishimura said in 2007 “the housewives of Tokyo” had a stabilizing effect on foreign-exchange markets. Short yen positions, or bets that the currency will decline, indicate domestic traders are now betting on a reversal in recent gains. Net shorts against the dollar reached 398,547 contracts on July 26, the highest since the Tokyo Financial Exchange began collecting data in July 2006.

The impact from the stricter margin rule will likely be limited, said Junya Tanase, chief currency strategist at JPMorgan Chase & Co. in Tokyo., citing what happened when the leverage limit was cut to 50-times a year ago. Any investors wanting to unload yen shorts have probably already done so ahead of the rule change, he said.

To contact the reporters on this story: Hiroko Komiya in Tokyo at hkomiya1@bloomberg.net; Kazumi Miura in Tokyo at kmiura1@bloomberg.net

To contact the editor responsible for this story: Rocky Swift at rswift5@bloomberg.net

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