Yen carry trade: money managers buy yen at lower rate

When Carry Trades Turn Risky 🚨 The USDJPY carry trade provides useful signals. Japan’s interest rates are near 0.25%. US rates are around 4.25%. That 4% yield gap is the reason behind this trade. Investors borrow in cheap yen and invest in higher-yielding US assets. Recently, the yen has dropped slightly due to tariff and political concerns. But here’s the risk: If the yen strengthens suddenly, these trades unwind fast. We’ve seen this before. Sudden reversals have triggered global sell-offs. 🔻 If the yen stays weak and US inflows rise too quickly, stay alert. The party can end fast when carry trades unwind.

While it hasn’t been openly discussed, I strongly believe a central but hidden objective of these trade agreements is to intentionally push the US dollar lower relative to other major fiat currencies. One possible lever to support that effort could be Japan allowing its long-term interest rates to rise relative to US yields. Keep in mind, only about one-tenth of Japan’s debt is tied to maturities of 20 years or longer. It also wouldn’t surprise me if a large portion of the $550 billion capital commitment Japan recently announced — without specifying a timeline — ultimately comes in the form of Treasury purchases, helping to drive US yields lower. Although already the largest holder, Japan’s Treasury holdings have remained virtually unchanged for over a decade. For the record, I don’t believe this is just about Japan or the yen. Even after its worst year-to-date performance since the 1970s, the US dollar remains significantly overvalued by historical standards — and a meaningful decline is likely a necessary adjustment to help correct the severe trade imbalance the US currently faces.

Plotting a Dollar Decline? Markets Didn’t Get the Memo The concerns expressed in the note reflect a public narrative around trade imbalances and currency adjustments, though the ‘hidden objective to push US Dollar lower to other major currencies’ warrant clarification. The $550 billion Japanese “Capital Commitment” is not an investment -- and certainly not a market mover The recently announced $550 billion Japanese capital commitment even if one were to assume – counterfactually -- that this amount would be spend entirely on U.S. long-term Treasury purchases, it would be negligible in market terms: the approximate daily turnover of 30-year U.S. Treasuries alone exceeds $300 -- 400 billion, based on SIFMA and FICC data. This makes the entire $550B figure equivalent to just 1.5 days of long-bond trading volume, hardly enough to move markets, let alone engineer strategic currency shifts. The notion of an “Overvalued Dollar” needs to be put in context The idea that the dollar is “significantly overvalued by historical standards” has to be specified against a proper benchmark. If we examine USD Real Effective Exchange Rate (REER) and Nominal Effective Exchange Rate (NEER) indices over the past five years until now, there is no evidence of calamitous overvaluation or disorderly depreciation. The U.S. is not a developing country -- trade imbalances are not attempted to be fixed through FX depreciation The claim that a “meaningful decline” in the dollar is a necessary adjustment to correct U.S. trade imbalances reflects a framework more appropriate to emerging markets with limited monetary autonomy. The U.S., as the issuer of the world’s primary reserve currency, adjusts its trade and capital account imbalances through multiple refined channels, including global dollar seigniorage, foreign investment flows, global demand for Treasuries, and the dollar's role in commodity pricing and global reserves. The U.S. does not need to rely on currency depreciation to restore external balance. In fact, a forced dollar depreciation would risk destabilising global financial markets, many of which are dollar-invoiced or dollar-indebted.

Option traders are beginning to flip the script on Japan’s currency, with some of them bracing for political shocks, trade flare-ups, and shifting Federal Reserve expectations to push the yen lower against the dollar.

What’s the Japanese Carry Trade? Investors around the world have been taking advantage of the artificially low interest rates in Japan. The playbook is simple: Investors have been borrowing Japanese yen at near-zero interest rates. They use this money to buy U.S. stocks and treasury bonds. Since U.S. Treasury bonds pay around 5%, borrowing at nearly 0% to get a 5% yield and pocketing the difference seems like a no-brainer. Additionally, until 2024, the JPY/USD rates were declining (i.e., the JPY was losing value), making these JPY loans cheaper to repay.

Japan’s 10-Year Bond Yields Hit 2008 Highs—What Could Happen Next? Japan’s 10-year government bond yields have hit their highest level since 2008! If this upward trend continues, it could have a big ripple effect on global markets. Here’s why: Higher bond yields mean higher borrowing costs. For years, investors (famously nicknamed “Mrs. Watanabe”) have taken advantage of Japan’s ultra-low interest rates to borrow yen and invest in higher-yielding overseas assets—a strategy known as the yen carry trade. But as Japanese bond yields rise, these traders may be forced to unwind their positions, selling off assets to repay yen-denominated loans. If that happens, we could see sharp sell-offs in U.S. stocks and other global risk assets as the unwinding accelerates. Buckle up—it could get bumpy!

Japan faces a critical economic juncture, marked by its 10-year government bond yield hitting a 2008 high (around 1.59%-1.60%) and the continued devaluation of the Yen against the USD. This tandem poses significant challenges for the nation's heavily indebted fiscal policies. The rising bond yield directly increases the cost of government borrowing. With Japan already shouldering the highest debt-to-GDP ratio among developed nations (exceeding 250%), this upward pressure on yields intensifies the burden of debt servicing, potentially straining public finances and limiting the government's capacity for essential investments. Simultaneously, the weakening Yen, driven by the Bank of Japan's (BOJ) historically ultra-loose monetary policy diverging from tighter global rates, inflates the cost of vital imports like energy and food. While a weaker Yen nominally aids exporters, the higher import costs contribute to domestic inflation, eroding consumer purchasing power and squeezing profit margins for many businesses. Given this precarious balance, the BOJ can no longer afford an overly passive approach. While it has initiated a cautious normalization of policy by raising short-term interest rates and tapering bond purchases, the speed and scale of these adjustments are under intense scrutiny. The current situation demands a more proactive stance to prevent spiraling government indebtedness and to address the inflationary pressures that disproportionately affect households and smaller enterprises. Failure to act decisively could lead to unsustainable fiscal policies and further economic instability. The BOJ's future actions, or lack thereof, will be paramount in determining Japan's economic trajectory. Disclaimer: This should not be read as financial advice . https://lnkd.in/gJ6hEbFG

As global bond yields continue their upward climb, Japan finds itself in a far more precarious position. Decades of ultra-low interest rates and relentless quantitative easing have brought Japan to a fiscal cliff. And this time, there may be no lifeline. The Bank of Japan's policy has shifted, and bond buyers are stepping away. We can't predict the future, but it appears that one of the world’s largest economies may be approaching a structural inflection point. Japan: Approaching the cliff Link: https://lnkd.in/dehM3r68

Something does not add up here: The Bank of Japan currently has a policy rate of 0.50% and Japan has a Debt-to-GDP ratio of 250%+. Meanwhile, Germany has a policy rate of 2.25% (4.5x higher) and a Debt-to-GDP ratio of just 62% (1/4 of Japan's). However, 30Y Government Bonds in Germany and Japan both yield ~3.2%. If you think Japanese bond yields are high, the market says we are just getting started. What is happening here?

USD/JPY Swings on US-Japan Trade Deal Announcement On Tuesday evening, the U.S. announced a long-awaited trade agreement with Japan. 🤝 Key terms include Japan's acceptance of a 15% reciprocal tariff and a commitment to invest $550 billion in the U.S. 💰 and open its markets. The deal was described by the U.S. as "unprecedented," stating that Japan will "open up their country, including to trade in cars and trucks 🚗, rice 🍚 and certain other agricultural products, and other things." Following the announcement, the Japanese yen strengthened against the dollar, surging 0.3% before quickly retracing most of its gains. 📈📉 Prominent analysts note 🔍 that the yen's brief strength reflected the market's view that the 15% tariff was a relatively favorable outcome. However, with the trade uncertainty resolved, focus is expected to shift back to Japan's fiscal outlook, increasing the risk of long-term yen weakness. 👇 Follow us for the latest FX news and updates! Don't forget to visit our website for competitive exchange rates and innovative treasury, liquidity management, FX, and payment solutions: https://lnkd.in/gsVit_jD #USDJPY #Forex #FX #JapaneseYen #USTrade #Macroeconomics #CurrencyMarkets