Great Graphic: VIX and the Yen

Following the post yesterday that showed that the yen's inverse correlation with the S&P had increased to its highest level in a year, some readers pointed out a piece in the Financial Times that argued the opposite.   The author of FT piece looks at the correlation between the yen and the VIX, rather than the S&P itself.  

This Great Graphic, created on Bloomberg, shows the correlation between the yen against the dollar (not dollar against the yen) and the VIX. (90 day rolling basis on percent change) It has been increasing since the start of the year and now stands at a 2 1/2 year high.  

It is true that the correlation was generally higher during the heart of the financial crisis (Q2 2007-H1 2009), but this was an anomaly.  In the period from 2000-2006, the correlation between the yen and VIX was rarely above 0.3. 

The author of the FT piece states that "It turns out that the correlation between the yen and the VIX has been deteriorating, in parallel with the deterioration of Japan's current account balance."    As is well appreciated, Japan's current account balance has deteriorated in recent years.  Part of this is a function of the earthquake, tsunami and nuclear tragedy in March 2011 and the increased reliance on imported energy.  However, Japan's external accounts were deteriorating prior to the March 2011, as the terms of trade shifted as commodity prices rose relative to priced of manufactured goods.  

While we prefer to conduct the correlation studies on the basis of percentage change, it seems less useful when looking at the correlation between the yen and Japan's current account.  Also, wanting to give the author of the FT essay the benefit of doubt, we wanted to focus on the period covering the deterioration the Japan's external balance.  We looked at a 30-month rolling correlation between the yen and Japan's current account surplus at the level of differences 

Yet since the current account data is available only through February, that is the period we examined.  At -0.17 the inversion is the least in about a year.  Since 2000, the correlation (30 months at the level of differences) has been inverse with three exceptions.  Two of these were minor (late 2003/early 2004, and late 2011/early 2012).  One was more substantial  and that was during the heart of the crisis. 

In conclusion, we have been unable to replicate the claim of the FT essay claiming that the yen's safe haven status has been eroded.  Our initial work looked at the daily correlation between the yen and the S&P 500 and found the inverse relationship was the strongest in year.  We then conducted the correlation suggested by the FT essay and found that the yen's positive correlation with the VIX is the highest in a couple of years.