By Rae Wee and Tom Westbrook
SINGAPORE, March 20 (Reuters) – The era of Japan’s negative rates has come to a close. Yet, some daring investors remain steadfast in their belief that low rates persist, reigniting the allure of betting against the yen in the face of the Bank of Japan’s monumental first hike in 17 years.
Though the BOJ’s move at the recent policy meeting was indeed a tectonic shift, the central bank clung onto its dovish tones, affirming its commitment to maintain “accommodative financial conditions”.
Consequently, traders swiftly scuttled back into the realm of popular yen ‘carry trades’, propelling the beleaguered yen JPY= even lower.
“Japan continues to flaunt the lowest interest rates among the G10,” quipped Shafali Sachdev, head of investment services, Asia at BNP Paribas Wealth Management.
“Hence, with the specter of event risk vanquished, this moment is perceived as an open invitation to re-establish carry positions.”
In the realm of a carry trade, an investor adeptly borrows in a currency sporting paltry interest rates only to reinvest the proceeds in a more lucrative, higher-yielding currency. A 3-month dollar-yen carry trade boasts the potential to yield up to 5% on an annualized basis.
The frenetic rush to seize yen for these carry trades found vivid reflection in the price movements witnessed on Wednesday.
The Lure of Gaping Yields
A portion of the yen’s descent sprang forth from a ‘sell-the-fact’ stance, as BOJ Governor Kazuo Ueda, unlike his forebear Haruhiko Kuroda famed for his shock-and-awe tactics, had meticulously primed investors for the possibility of forthcoming maneuvers.
“What might have historically qualified as seismic revelations ended up being rather subdued, given the slew of proclamations previously leaked to the markets over the preceding days,” noted Charles Hepworth, investment director at GAM Investments.
Moreover, a gaping chasm yawns between Japan’s interest rates and those prevalent in other developed economies. The U.S. Federal Reserve flaunts a main policy rate ranging from 5.25% to 5.5%, with other major economies boasting rates neatly above 4%.
This stark differential unequivocally tilts the scales in favor of yen carry trades, thereby placing the currency under incessant pressure. From a peak in January 2023, the currency has slumped a staggering 16% against the dollar.
“The primary battlegrounds remain against the dollar, the Aussie, the kiwi… These represent more fleeting trades where the carry stands poised to reap rewards,” elucidated BNP Paribas’ Sachdev.
Basking in relatively muted volatility and with the Fed steering clear of embarking on its rate-slashing spree any time soon, it comes as no surprise why investors eagerly hunger to amass yen-financed positions.
As evidenced by the three-month dollar/yen implied volatility JPY3MO=, a metric gauging the cost of options contracts utilized by traders to hedge positions, resting comfortably at near three-month lows.
Amidst a sequence of data alluding to persistently robust inflation in the universe’s largest economy, prognostications concerning a Fed rate cut in June have remarkably dwindled.
“Whenever the Fed and the BOJ synchronize their policy adjustments, it invariably culminates in the Fed dictating and steers the price narrative,” delineated Gareth Berry, FX and rates strategist at Macquarie Group.
HSBC analysts opine that yen liquidation will eventually taper off, likely coinciding with the onset of Fed rate cuts. Should the dollar wane and yen appreciate, the yield on yen carry trades is poised to corrode.
Yet, for the time being, even a historic policy pivot from the BOJ has thus far proven ineffectual in reversing the tide favorably for the yen.
Dollar-yen vs US-Japan yields https://tmsnrt.rs/47bTEUY
(Reporting by Tom Westbrook and Rae Wee; Editing by Vidya Ranganathan and Alexander Smith)
The views and opinions articulated here are solely those of the author and do not necessarily mirror those of Nasdaq, Inc.
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