Thursday’s trading session in Asian markets felt like watching a train wreck on repeat, made all the more exciting as the interest rate saga intensified under the ever-watchful eye of the Bank of Japan. The Topix index in Japan set off a domino effect across the region, leading to a widespread crash in Asian markets. It was a tech disaster, with the region’s tech giants bearing the brunt of the blows. An index of the technology sector across Asia slumped around 2%, turning trading floors into a scene of digital despair. This tech crash followed a 1.2% decline in the tech-heavy Nasdaq 100 index, adding a dollop of sour cream to an already unsavory market pie.
Last week, the drama intensified with a twist in the narrative of global markets. Caught in a financial soap opera, investors braced themselves as the US and Japanese central banks may continue to move in opposite directions, fuelling a cocktail of confusion and sending the yen on a wild rollercoaster ride. The yen, traditionally a darling of cheap financing, suddenly seemed less attractive, changing scripts and budgets everywhere.
As if on cue, the yen rallied on Thursday, erasing Wednesday’s 1.6% loss against the dollar as the yen madness continues with the unwinding of remaining carry trade positions.
A venerable part of global market strategies, the Yen carry trade has recently become the focus of attention due to its sheer scale, catching the attention of many who had not previously paid attention to it. While I don’t have exact data to hand, based on my years of experience in the FX and EFX space, I can confidently say that this is one of the largest carry trades I have ever seen. This morning’s jittery JPY price action suggests that despite significant declines, a massive chunk of USDJPY settlement is still floating above the market.
The yen carry trade has been enormous. In particular, Japan’s net foreign investment position (excluding banks) shows that domestic investors – meaning every “Mr. and Mrs. Watanabe” out there – have poured a total of about $3.5 trillion into foreign stocks and bonds financed with JPY – an absolutely staggering amount. And yet market rumors and exchange estimates suggest that a whopping 35 to 40 percent of this behemoth has yet to be unwound.
The recent dovish signals from the Bank of Japan’s deputy governor have likely provided some much-needed respite and helped many get out of precarious situations. I believe the Bank of Japan will hold off on raising rates indefinitely while the remedial work is underway, if at all. This pause will likely make USDJPY movement even more sensitive to changes in the US interest rate landscape as JPY funding wanes.
