The Weak Yen Is Calling

The yen's decline -- it's lost roughly 15% against the dollar this year -- has taken place amid signals that Japan's economy is starting to strengthen after years of underperformance. While an improving economy should normally boost the yen, the Bank of Japan has indicated that it will take its time moving away from its zero interest rate policy.

The combination of a weaker yen and a sturdier economy has been prompting increased investments in Japanese equities this year. That's especially true for U.S. investors, who've watched the dollar rise against most currencies thanks to the outlook for continued rate hikes by the Fed.

(Three of RealMoney's contributors own the (JOF Quote)Japan Smaller Capitalization Fund.)

For Jack Ablin, chief investment officer at Harris Bank, "from a dollar perspective, now is the time to make your international investments, including in Japan." The opportunity should last through the first quarter, because the Fed is widely expected to boost rates at least two more times, including by a quarter-point next week and another 25 basis points in January. "Clearly, the Fed is the dollar's protector right now," Ablin says.

In the short term, the yen has the potential to continue softening against the dollar. The Bank of Japan has begun to fret about inflationary pressures in recent months, but Japanese Finance Minister Sadakazu Tanigaki told the G7 meeting's attendees over the weekend that he remains "comfortable" with the yen at 120 to the dollar.

Still, "they haven't given a green light [to an endless weakening]," says David Powell, currency strategist at IDEAglobal. "By 125, people will start screaming intervention again."

Powell believes the 125 yen level could be reached over the next several weeks. Even though the Japanese government probably wouldn't intervene, lawmakers likely would step up the rhetoric and hold speculators in check, preventing further depreciation, he says.