By Lukanyo Mnyanda and Stanley White Oct. 29 (Bloomberg) -- The yen rose against the dollar, after the biggest decline since 1974, as a drop in U.S. stock futures prompted investors to pare holdings of higher-yielding assets funded with Japan's currency. Japan's currency also gained against the Australian dollar and the South African rand, two favorites of so-called carry trades. The dollar fell versus the euro on speculation the Federal Reserve will cut rates today before data that may show the world's largest economy contracted the most since 2001. ``The yen reacts intensively to risk aversion and won't be under too much pressure in the near future,'' said Lutz Karpowitz, a currency strategist in Frankfurt at Commerzbank AG, Germany's second-biggest lender. ``We're not expecting risk aversion to plummet at the same pace as we saw it rising as it's going to take time to restore confidence in the market.'' The yen rose to 96.97 per dollar at 9:37 a.m. in London from 98.03 yesterday in New York, when it fell 5.3 percent for its biggest decline since January 1974. Against the euro, it rose to 123.54 from 124.32. The dollar fell to $1.2756 per euro from $1.2683. Japan's currency may trade at about 95 per dollar by the end of the first quarter in 2009, Karpowitz said. The yen is a popular currency to fund carry trades, in which purchases of higher-yielding assets are funded in nations with lower rates. Japan's key rate of 0.5 percent compares with Australia's 6 percent and South Africa's 12 percent. The pound rose to $1.6046 from $1.5901. The South Korean won climbed to 1,426.90 per dollar from 1,467.85, its biggest gain in almost two weeks, after overseas investors turned net buyers of the country's stocks. U.S. Rates Futures on the Standard & Poor's 500 Index for December delivery fell 2.1 percent to 919.70 following a 12 percent rally in the index yesterday. The Fed will lower its 1.5 percent target lending rate by a half-percentage point at the conclusion of its two-day policy meeting today, according to the median forecast of 69 economists surveyed by Bloomberg News. Policy makers are scheduled to announce the decision at 2:15 p.m. in Washington. Futures on the Chicago Board of Trade show a 46 percent chance the central bank will cut rates by three-quarters of a point. U.S. consumer confidence slumped to a record low this month, a report showed yesterday. Gross domestic product shrank by 0.5 percent in the third quarter for its biggest decline since the 2001 recession, data tomorrow may show, according to a separate survey. ``The Fed may move to a zero interest-rate policy,'' Masafumi Yamamoto, head of foreign-exchange strategy for Japan at Royal Bank of Scotland Group Plc in Tokyo and a former Bank of Japan currency trader, wrote in a research note today. ``A worsening economic outlook suggests an increasing likelihood of additional rate cuts.'' Bank of Japan The yen rose on speculation a rate cut or currency market intervention from the Bank of Japan won't stem its recent gains. The strength in the yen has eroded Japanese exporters' overseas income. Honda Motor Co., Japan's second-largest automaker, cut its operating profit forecast for the year ended in March 2009 by 13 percent to 550 billion yen ($5.6 billion). The BOJ is ``leaning toward'' reducing its target rate by a quarter-percentage point to 0.25 percent when it announces a policy decision on Oct. 31, the Nikkei newspaper reported without citing anyone. ``Twenty-five basis points isn't really going to change the bigger scheme of things that much,'' said Ashley Davies, a currency strategist in Singapore at UBS AG, the world's second- largest foreign exchange trader. ``The European Central Bank and the Bank of England are sequentially cutting rates whereas these are more of one-off adjustments for the Fed and the BOJ.'' Yen Volatility He said the yen will gain to 90 per dollar in one month because global fund managers still need to ``de-leverage.'' The yen rose to 62.65 per Australian dollar, and was at 9.4193 per South African rand. Japan's currency has jumped 32 percent versus the euro and 56 percent against the Australian dollar this year. The Group of Seven countries issued an unscheduled statement on Oct. 27 saying it was concerned ``about the recent excessive volatility'' in the yen. Japanese Finance Minister Shoichi Nakagawa said his country is ready to act in currency markets if necessary. Governments intervene in foreign exchange markets by arranging purchases and sales of currencies. Volatility implied by dollar-yen options expiring in one month, a measure of expectations for future currency moves, was 33.38 percent today. It reached 41.79 percent on Oct. 24, the highest since Bloomberg began compiling data in December 1995. ``What has been driving the yen stronger is not speculative positions but the repatriation of Japanese investors and de- leveraging by global investors,'' said Sophia Drossos, a strategist at Morgan Stanley in New York. ``The trend is not over yet.'' To contact the reporters on this story: Lukanyo Mnyanda in London at lmnyanda@bloomberg.net; Stanley White in Tokyo at swhite28@bloomberg.net

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