YEN CARRY TRADE UNWIND: PART 2

Ironic timing in light of the recent yen bounce, pulling higher US bonds (and gold) with it - pushing US dollar and yields lower (putting a bid in equities). ;-)

»CLUB/EDGE client post January 11th, 2025

Time To Focus On The Yen

I wrote this last year (March 24th, 2024) on yen carry trade unwind risks:

I have said before, that the USDJPY is akin to rudders in an attack submarine.

• DXY is the engine.

• JPY is the ballast.

• 10Y the diving planes.

And the Pressurized Hull of this stealth sub is what keeps everything inside it under water from being crushed.

This was before they hiked in early July that set forth the 2024 YEN-CARRY-TRADE UNWIND PART 1.

I recommended the yen long on July 13th and warned equites were at risk July 9th.The result was a very fast drawdown in the NDX to the tune of -15% in one month on a rising yen which lifted gold and bonds - at the same time: OIL, YIELDS and DOLLAR with USDJPY were crashing lower with EQUITIES.

So what does it look like now if yen starts to rise as BOJ looks to hike rates again?
We have elevated/rising oil, yields, dollar, usdjpy and equities.

SPX has corrected 4% from all-time-highs on rising dollar and yields, but in reality, we have not yet even filled the Trump Bump from the election November 5th.

So while all eyes are on the bond market - and I spied it early/warned often - most are forgetting about the yen.

There Could Be An Exit From the Dollar To The Yen

Over a year ago, I was interviewed by Roger Hirst - November 9th - wherein I talked about the dollar and yen, and why it matters.

‘Japan is the largest holder of US debt and equities, holding over 1.1 Trillion US dollars worth.
BOJ is making hawkish sounds just as the rest of the world's central banks are pausing/cutting.

2021-2023 were the years when the Yen had an incredible bear market due to YCC – which happened to take place during the fastest Fed hiking cycle in history.

So what happens to US bonds AND equities if the opposite occurs in 2024-2026?

If/When BOJ reverses negative rates and pivots, there could be an exit from the dollar to the yen.

This was the basis of my podcast last year with @RogerHirst3:

So now that EVERYONE is talking about the bond vigilantes, it's time to focus on the yen again.

The 'yen carry trade unwind part 2' could be setting up, and why does it matter?

It is not just a yen carry that unwinds but oil and bonds are also carry trades.

And the correlated actions produce a DELEVERAGING across all assets - currencies to commodities to bonds to equities. And my bet: it is not done.

US Yields and Yen Matter To Market Returns

The following is from a client post after the August 5th, 2024 short-covering rally:

The Other Side Of the Yen Carry Trade Unwind: HIGHER US YIELDS

Given the extreme move in the yen short-covering rally, we can see months of basing (read: gyrations) before further Yen appreciation.

With that, there will be periods where investors unwinding Yen carry trades will sell US Treasuries they purchased with borrowed Yen. This would help depress bond prices forcing higher yields.

We are there obviously. This was the rest of that paragraph:

But will it stick if we are entering STAGFLATION RECESSION vibes?
Most likely not. So as investors close out carry trades (and sell US Treasuries), they convert those USD back to Yen and repatriate those funds back to Japan.

Fast forward, and BOJ meets end of January 2025, with our FOMC January 29th and QRA soon after ... AFTER the Inauguration of Trump January 20th.
Lots to navigate, but I'm squarely focused on trying to figure out if BOJ hikes and what happens if they do:

A. US Treasuries get supported, pushing US yields lower.

• And if so, will lower yields support equities?

• OR lower yields trigger a repeat of yen-carry-trade unwind meets basis-trade unwind (short 10Y futures note, long nasdaq 100)?

• OR falling yields pull forward economic growth concerns?

B. US Treasuries continue to fall, pushing up US yields with dollar (and perhaps oil as inflation proxy), forcing a bond duration shock that triggers volatility and equity de-risking before Fed/Treasury intervenes.

• And if so, what does a Fed/Treasury policy intervention look like that could be interpreted as market bullish when Q/E is no longer viable as policy lever given rising the real risk of inflation spiking?

My point: Lots of reasons yields can rise or fall - especially in front of a Fed pause into sticky inflation against a back-drop of fiscal dominance, unproven and unclear proposed new fiscal policies, and treasury actions.

But you add in the BOJ and market reaction-function, and that macro trend trade - from currencies and commodities, bonds and equities - just got a whole lot trickier to predict.

Just never forget: BOJ triggered a BASIS-TRADE UNWIND on the last YEN CARRY TRADE UNWIND in July 2024.

Will this time be different?

It will be very difficult to identify the motivation behind each bond gyration, but my baseline bet is the same:

The CONCENTRATION risk unwind is inevitable this year either way.