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The Japanese yen is showing signs of a sustained recovery just six weeks after falling to a four-decade low against the U.S. dollar, as investors unwind bearish positions amid rising Bank of Japan rate hike expectations and shifting global capital flows.
The yen is heading for a roughly 2% weekly gain against the dollar, its strongest performance since coordinated U.S.-Japan currency intervention in late July. It has also risen nearly 2% against the euro and Australian dollar.
Investor sentiment toward the yen has shifted significantly. Citigroup data indicate positioning has moved from bearish to bullish since early August, while leveraged funds, banks and institutional investors have been net buyers of the Japanese currency.
A major catalyst is the BOJ’s September policy meeting. Markets see a 97% probability of a 25-basis-point rate hike to 1.25%, according to Tokyo Tanshi data, compared with 52% a month earlier. Although a 50-basis-point increase remains unlikely, BOJ policymaker Hajime Takata has raised the possibility of larger or more frequent hikes.
The changing outlook is also threatening yen-funded carry trades, where investors borrow cheaply in Japan to purchase higher-yielding overseas assets. A narrowing interest-rate gap between Japan and the United States could accelerate the unwinding of these positions.
Japanese investors may also be bringing more capital home as government bond yields rise. Official data show investors are selling foreign bonds at the fastest pace in four years, increasing expectations of further yen demand.
The Federal Reserve could provide another boost. Traders have reduced expectations for U.S. rate hikes following dovish remarks from Fed Governor Christopher Waller, potentially allowing the BOJ to narrow the U.S.-Japan interest-rate gap.
JPMorgan estimates yen short positions accumulated since Prime Minister Sanae Takaichi took office could total about 17 trillion yen ($109 billion). Analysts Junya Tanase and Ikue Saito said a complete unwinding of those positions could push USD/JPY down to the 142-146 range, compared with around 156 currently.
