Yen carry trade wobbles as BOJ rate hike looms

The yen has strengthened from multi-decade lows as markets price in a Bank of Japan rate hike, threatening the popular yen carry trade. This strategy, borrowing cheap yen to invest in higher-yielding assets, could unwind and cause volatility in global markets, including European portfolios.

Bottom line — BOJ's expected 0.25pp rate hike to 1.25% threatens the yen carry trade's viability.

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• The yen carry trade relies on borrowing yen at near-zero rates to invest in higher-yielding assets abroad, per SCMP.
• Markets have priced in a 0.25 percentage point rate hike at next week's BOJ meeting, lifting Japan's benchmark rate to 1.25%, its highest since 1995, per SCMP.
• A stronger yen and higher funding costs make the carry trade less attractive, as the risk of exchange-rate losses increases, according to Matteo Giovannini of ICBC.
• Conservative estimates peg the core leveraged carry trade in the hundreds of billions of dollars (€ hundreds of billions), with broader yen-funded exposure in the low trillions (€ trillions), per InvestorPlace.
• However, analysts argue this is not a repeat of 2008, as the unwind is a financial market dynamic rather than a systemic credit event, per InvestorPlace.
• The strengthening dollar is also pressuring emerging-market currencies, as a hawkish Fed pivot reverses earlier gains, per Crypto Briefing.
• European investors with exposure to EM assets or yen-funded positions face increased volatility.

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