The yen rose towards a one-month high against the dollar on Monday after soft US growth data and as traders looked to the release of a Bank of Japan economic outlook report for clues about when Japanese interest rates will climb further.
Investors covered short yen positions as the dollar fell out of favour at the end of last week after disappointing third quarter growth figures and a Federal Reserve policy meeting that suggested a rise in US rates in the near future was unlikely.
Some analysts said that the yen could continue to appreciate as market participants perk up to the possibility that Japanese rates could soon rise.
"We could be seeing a change of trend," said Toru Umemoto, chief FX strategist at Barclays Capital in Tokyo. He said that the market was beginning to warm to the Japanese currency after the dollar had failed to climb to the key 120 yen level in the past month, while the euro/yen had pulled back from a record peak hit on Friday.
The yen was also supported following comments by Japan's top financial diplomat on Friday that traders regarded as a verbal attempt to stem falls in the Japanese currency.
The dollar was at 117.40 yen as, down from around 117.60 yen in late US trading on Friday, when it fell to a 1-month low of 117.13 yen on electronic trading platform EBS. The euro fell to 149.30 yen from around 149.80 yen, off the record high of 150.80 yen hit on Friday.
The yen showed little reaction to data showing Japanese industrial production fell 0.7 percent in September from a month earlier, a result mostly in line with a median market forecast for a decline of 1.0 percent. The euro slipped to $1.2720, still within sight of Friday's high of $1.2751, the highest in over three weeks.
The US Commerce Department said on Friday that US economic growth in the third quarter slowed to 1.6 percent, its weakest pace in over three years.
The data strengthened expectations that the Fed would not raise interest rates again and stirred some speculation that they might even cut rates in early 2007 to boost growth.
Traders said the yen could gain more if the BoJ's semi-annual outlook on the economy and prices, due on Tuesday, strengthens expectations for the central bank to raise rates by the year-end.
The market was also awaiting comments by BoJ Governor Toshihiko Fukui due on Tuesday after a one-day policy meeting at which the central bank is widely expected to hold rates at 0.25 percent.
"There's a possibility that the BoJ could come out hawkish and this could kill yen short positions," said Umemoto at Barclays, adding that the yen could climb to 116 per dollar in the next day or two. "The market has become more sensitive to the yen bullish story than the yen bearish story."
The yen got a lift on Friday, when Hiroshi Watanabe, vice finance minister for international affairs, told Reuters that he did not expect the yen to weaken further given Japan's healthy economic fundamentals.
Although any actual currency intervention to prop up the yen was unlikely, the comments were enough to make traders cautious about selling the yen too aggressively, said the senior trader for a Japanese bank.
"I don't think anyone thinks authorities will intervene now," said a senior trader at a Japanese bank, but added that the comments likely helped to trigger some short-covering in the yen. Currency speculators built positions against the yen to a record 137,290 contracts in the week to October 24, US Commodity Futures Trading Commission data showed on Friday.
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