The yen rose to a two-week high against the dollar on Tuesday on a wave of short-covering triggered by strong economic data ahead of a Bank of Japan policy meeting later in the week.
Dealers have been unwinding a raft of short positions after data showing a rise in Japanese capital spending on Monday rekindled speculation that the central bank might raise rates this year despite a run of soft economic data last month.
Traders said the possibility of a continuing yen rebound on such repositioning was running high given that net short positions in the currency jumped to a record peak last week, helping to push it to a record low against the euro and a six-week trough versus the dollar .
"The spending data was strong ... so the market is testing the upper and lower limits of recent ranges," said Nobuo Ibaraki, forex manager at Nomura Securities, referring to the 114-118-yen range the dollar/yen has traded in for much of the summer.
While position adjustments were adding to the market's momentum, he added that the primary driver of yen gains was data on Monday that showed a 16.6 percent rise in capital spending in April-June from last year.
The yen could gain more in the near term if the market becomes more confident that the economy is recovering, Ibaraki said, adding that a rise to 114 yen this week was not out of the question.
Still, some traders said the yen's reprieve could be limited, given that Japanese rates will continue to trail those of its rivals, a factor that has driven the currency's woes in recent months.
The market's main focus is on a news conference by BOJ Governor Toshihiko Fukui on Friday. Fukui will speak after a two-day policy meeting, at which the central bank is widely expected to keep rates unchanged at 0.25 percent.
The dollar traded around 115.85 yen, down around 0.12 percent for the day so far after hitting a two-week low around 115.75 yen. The U.S. currency tumbled more than 1 percent on Monday