USDJPY: Carry Trade Unwinding....More to go?

A major relative monetary policy shift (Fed vs. BoJ) is currently underway. Not only is Fed policy changing, with a rate-cutting cycle about to begin, but the BoJ decisively shifted policy last week. In particular, and more importantly than the BoJ rate hike (+15bps), Governor Ueda said in the press conference that ‘neutral is some way off' (i.e. there’s more BoJ tightening to come).

That relative policy switch has happened at a time of maximum YEN short positioning and has therefore been accompanied by marked strength in the YEN in recent trading days. Against the dollar, for example, the Yen is up 9.1% since 10^th July (fig 1a), and has also been strong against the GBP (+9.0%) & the EUR (+8.3%), since the mid-July lows in the YEN. As fig 1 shows, net LONG positions peaked at ~195k contracts (and are at 77.6k on the latest data). That highlights the fuel for further YEN strength as traders continue to unwind short positions.

The YEN, of course, has been a major funding currency for a long time. A normalisation of BoJ policy, at a time of falling Fed rates, has therefore destabilised the ‘risk-on’ trade and played a key role in the crash in Japanese equity markets overnight.

Most notably, the Nikkei 225 closed down 13.5% today (and -19.5% in just the past three trading days, fig 1b). Elsewhere, the Taiwanese & Korean equity markets have sold off sharply (TAIEX: -8.4%; Kospi: -8.8%). That weakness was centred around tech-heavy indices (e.g., KOSDAQ: -11.3%), and has spilled into other markets (e.g., Jakarta Comp: -3.8%; & Singapore Straits Times: -4.8%). A switch in the global risk appetite regime is therefore underway. In part that reflects the changing central bank policy outlooks noted above. Increasingly, though, its also being driven by concerns about a US recession.