(Changes byline, updates prices, adds quote)
By Jamie McGeever
LONDON, Jan 21 (Reuters) - The Japanese yen strengthened
broadly on Monday, hitting a two-and-a-half year peak versus the
dollar as a rout in global stocks prompted investors to sharply
reduce their exposure to risky, higher-yielding assets.
This meant the low-yielding yen, which many investors had
used to fund purchases of currencies offering higher returns in
so-called carry trades, bounced strongly against major units.
The selloff in stocks was broad and deep, with major
European and Asian markets down as much as 6 percent. Investors
rushed for the safest and most liquid assets they could find,
such as government bonds, which pushed two-year euro zone bond
yields down more than 10 basis points on the day and well on
track for the steepest monthly decline in over a decade.
The moves were fuelled by worries that the fiscal stimulus
package worth up to $150 billion floated by President George W.
Bush on Friday will not be enough to shore up a U.S. economy
that is feared to be either close to, or already in recession.
"Equity markets have collapsed by over 5 percent in Asia and
European equities are now following with even steeper falls in
some cases. The disastrous equity and credit market performance
provides clear evidence of the fast erosion of risk appetite,
with the carry trade now being severely squeezed," BNP currency
strategists wrote in a note on Monday.
"With recession fears in the U.S. rising and little
confidence in the Bush Administration's fiscal plans, together
with the continued broadening of subprime related losses we see
little scope for stabilisation in higher risk asset classes."
At 1510 GMT the dollar was down 0.7 percent on the day
against the yen at 106.00 yen <JPY=>, having hit 105.69 yen
earlier, a level last seen in May 2005.
The euro shed 1.5 percent to 153.66 yen <EURJPY=>, having
dipped below 153 yen earlier for the first time in five months.
PUMP UP THE VOLS
The dollar climbed 0.6 percent against a basket of
currencies to 76.87 <.DXY>, thanks more to the broad weakness of
most other currencies rather than investors' appetite to hold
the greenback itself.
"In our view, the balance of negative economic surprises
will shift away from the U.S. and re-coupling will increasingly
become the main macro theme of the year," said Dresdner
Kleinwort in a client note.
Futures markets are betting on the Federal Reserve slashing
U.S. interest rates this year to 2.50 percent or lower,
including as much as a 75 basis point cut at the bank's policy
meeting next week.
This aggressive pricing has now spilled over into European
markets, where rates futures are now discounting more than 50
basis points of easing from the European Central Bank this year
compared with expectations at the start of the month of the bank
staying on hold at 4 percent all year.
The euro fell 0.8 percent on Monday to $1.4490 <EUR=>,
slipping below $1.45 for the first time in almost a month.
The euro's lurch lower -- Citigroup opened a short
euro/dollar position on Monday -- helped push up option market
volatility.
Implied volatility on one-month euro/dollar options
contracts, a key measure of expected price swings in the euro's
exchange rate against the dollar, rose on Monday above 10
percent <EUR1MO=> for the first time in three years.
Implied volatility is the price fluctuation in an underlying
asset that the options market expects over a given timeframe.
Monday's choppy moves were on thinner volumes than usual,
with U.S. markets closed for the Martin Luther King Jr holiday.
(Editing by Stephen Nisbet)
