Yen Gains Against Pound, Euro as Credit Losses Damp Confidence

Sept. 25 (Bloomberg) -- The yen gained versus the pound and the euro on speculation credit market losses will damp business and consumer confidence across Europe.

The yen climbed against all 16 of the most-active currencies as investors unwound carry trades, reducing holdings of higher- yielding assets funded by loans from Japan. The pound snapped a three-day advance against the dollar after the Independent newspaper reported the U.K.'s deposit protection plan doesn't have enough cash to cover a failure of a lender such as Northern Rock Plc.

``The yen's gain suggests risk level is picking up again,'' said Chris Turner, head of currency research at ING Financial Markets in London. ``The market remains very vulnerable to bad news about banks and the financial sector, and it is reacting strongly to the U.K news today.''

The yen rose to 230.68 versus the pound at 9:16 a.m. in London from 232.27 yesterday in New York. It climbed to 161.47 per euro from 161.79 and to 114.70 per dollar from 114.86.

Global economic instability stemming from credit-market turmoil in the U.S. is ``likely to be protracted,'' the International Monetary Fund said in a report released in Washington yesterday.

Volatility on one-month dollar-yen options rose to 9.8 percent from 9.6 percent yesterday. Higher volatility discourages investors from borrowing in low-yielding currency such as the yen to fund higher-yielding investments elsewhere as it implies the bets will be exposed to greater exchange-rate fluctuations.

Consumer Confidence

The dollar traded at $1.4078 against the euro, within a cent of its record low, before U.S. reports forecast by economists to show falling home sales and consumer confidence. Signs of a weakening U.S. economy may stoke bets the Federal Reserve will cut interest rates again this year, reducing the appeal of holding U.S. debt.

Japan's currency advanced the most against New Zealand's dollar, a favorite of the carry trade, gaining 1.6 percent to 84.46 from 85.78 in New York yesterday. Against the Australian dollar, it climbed 0.6 percent to 99.08. Australia's key rate is 6.50 percent, New Zealand's is 8.25 percent and Japan's is 0.5 percent, the lowest among industrialized nations.

In carry trades, investors get funds in a country with low borrowing costs and invest in one with higher interest rates, earning the spread between the borrowing and lending rate. The risk is that currency moves erase those profits.

The Bank of England agreed to bail out Northern Rock on Sept. 14 and Chancellor of the Exchequer Alistair Darling later pledged to guarantee deposits as customers withdrew an estimated 2 billion pounds. The Independent said the U.K. Financial Services Compensation Scheme holds 4.4 million pounds ($8.9 million), while a similar U.S. fund has $49 billion.