2013.05.3007:06:52UTC+00Slump in Nikkei weighs on dollar-yen

The dollar is still under pressure against the yen as Japanese shares took another sharp tumble, that pushed the investors to unwind their dollar hedges on Nikkei. "It may seem illogical (for the forex market to follow the Nikkei), but a weaker yen led to optimism for stocks before, so right now the Nikkei's retreat has initiated a fall in the dollar-yen too," said Masashi Murata, senior currency strategist at Brown Brothers Harriman in Tokyo. Trading of the dollar-yen in U.S. trading hours is dominated by investor sentiment on whether a pullback in monetary stimulus is imminent or not. But market participants in Tokyo say that volatility in the Japanese equity and debt markets have a larger impact during Asian trading hours.

"My guess is that the trust banks need to buy dollars right now. The pension funds that were buying until the end of March have come back again and are trying to do a kind of price-keeping operation," said a trader at a major Japanese bank.

Volatility in the bond market has also thrown a spanner in the works for Bank of Japan Governor Haruhiko Kuroda, who said the audacious easing scheme he launched on April 4 was aimed at pushing down rates across the yield curve.

"Kuroda plays a key role for 'Abenomics', and he has been persistently sticking with the same message since April 4. But market participants are getting frustrated and starting to distrust him - they want him to stabilize the bond market," said Murata of Brown Brothers Harriman.

On Thursday, Kuroda said the BOJ will try to stem volatility in the JGB market to push down long-term yields. But most strategists expect rising expectations of QE tapering to lift Treasury yields and bolster the greenback in the months ahead. Societe Generale expects the U.S. benchmark yield to rise to 2.75 percent by the end of the year, from its current level of around 2.12 percent. Against a weaker dollar, the euro added 0.3 percent to $1.2952, just a tad away from May 22's one-week high of $1.2998, after being bolstered by a bigger-than-expected rise in German inflation.