The USD JPY traded sharply higher Friday morning, but the strong gains faded after a report showed the U.S. Services Sector slowed during August. The rise in demand for stocks appeared to be reviving the carry trade earlier in the session. This is a situation where investors borrow the lower yielding Yen then sell it to invest in higher yielding assets. Friday’s trading action in the Japanese Yen suggests that traders can’t make up their minds as to whether risk is on or risk is off.

The Japanese Yen began to strengthen against the Dollar after the weak U.S. ISM Services index indicated slower growth. The Dollar/Yen pared its gains while some traders took defensive positions against the possibility of a weaker U.S. economy.

The chart pattern suggests a possible double-bottom formation. This pattern will be confirmed if 85.90 is broken and at the same time will signal a change in trend to up.

Friday’s better than expected U.S. Non-Farm Payrolls data put risk back on the table. Although this report showed that the economy was still shedding jobs, private sector hiring was above the consensus, driving investors into equities and out of gold and Treasuries.

The shift in risk sentiment drove the U.S. Dollar lower especially against the commodity-linked currencies. The Japanese Yen was also punished as traders left the safety of the lower yielding currency.

Upside momentum was building in the Australian Dollar, putting it in a position to test the early August top at .9221. Recent Aussie economic data also led to speculation that the Reserve Bank of Australia would raise interest rates at its next meeting on September 7.

The strong rise in the Euro is a sign that investors are becoming confident that European economies may be emerging slightly ahead of the U.S. economy, carried by great economic numbers from Germany.

Earlier in the week, the European Central Bank left interest rates unchanged, but post report comments from ECB President Jean Claude Trichet provided some support for the single currency when he announced that the central bank would continue to provide a range of emergency funding to commercial banks through the end of 2010. He also downplayed the strength of the economic numbers which he tends to do each time the Euro Zone economy appears to be turning the corner.

Thin trading conditions may have contributed to the sharp break in the Dollar this week, so we are likely to find out next week where investors stand on the Greenback. Although the U.S. employment data was slightly better than expected, the country did lose jobs for the month. Some feel that this report took some of the pressure off the Fed to implement additional quantitative easing, but others remain concerned about the slow down in the economy because of today’s weaker ISM services data.

If T-Bonds continue to break and equities rise, then this will be a sign that trader appetite for risk is back on. This will lead to more pressure on the Dollar. The tricky market will be the Dollar/Yen. The revival of the carry-trade will pressure the Yen, but further weakening in the U.S. economy may encourage traders to dump the Dollar in favor of the Yen. If this occurs, then look for renewed talk about Japanese government and Bank of Japan intervention. The Yen by far will be the most difficult market to assess over the short-run and should be avoided until the catalyst driving this market can be identified with clarity and conviction.