The US dollar fell sharply against the Japanese yen on Thursday as currency traders interpreted the Bank of Japan governor’s comments Kazuo Ueda as a hint that the central bank will soon end its negative interest rate policy.
The US dollar fell 2.6% against the yen (USD/JPY) in early trading on Thursday. The yen also gained significantly against other rival currencies, rising 2.4% against the euro and 2.7% against the British pound.
Exchange-traded funds that track both long and short positions in the yen also saw big moves. ProShares UltraShort Yen (NYSE:YCS) decreased by 3.7%, while ProShares Ultra Yen (NYSE:VKS), which tracks rising interest, was up 3.5% in early trading on Thursday.
Meanwhile,Invesco US Dollar Index Bullish Fund (NYSE:GDP) was down 0.2% in early trading, whileThe US dollar index is a bear fund (NYSE:UDN) increased by 0.3%.
The Bank of Japan expects policy tightening
The moves came in response to Governor Ueda’s comments about the sustainability of Japan’s negative rate policy. Ueda said that managing monetary policy “will become even more difficult from the end of this year and into next year,” suggesting that rates could be raised soon.
Japan’s negative rate policy began in January 2016, setting the short-term interest rate at -0.1% and targeting the 10-year Japanese government bond (JGB) yield at 0%, capped at 1%. In November, the Bank of Japan took the first steps toward reversing the policy, lifting the cap on the JGB and proposing to make it the base rate.
Earlier in the week, the deputy governor of the Bank of Japan Ryozo Himino he said in his speech that Japan’s aging population of depositors would benefit from increased net interest income if rates rise.
But the pace of such an increase is unlikely to move the needle much on the mood of the yen. After four decades of benign inflation, the BOJ is venturing into new territory, and is likely to do so very cautiously.
“We see that the market may be disappointed by the pace at which the BOJ is willing to withdraw its conditional collateral policy over the next year or so,” he said. Jane Foleysenior currency strategist at Rabobank.
“However, we expect the currency pair (USD/JPY) to move lower in the second half of next year on the back of the Fed’s rate cuts and the gradual tightening of the BOJ’s accommodation.”
Is the dollar/yen transfer over?
With the Fed cutting rates and the BOJ rising, currency markets may see the long-term bullish factor in USD/JPY fade as carry trades become riskier.
Carry trading involves currency investors profiting from interest rate differentials: Forex traders borrow low-yielding currencies like the yen to invest in higher-yielding currencies like the dollar. The weight of the carry trade was such that the dollar increased by more than 40% against the yen over the past two years.
“We doubt that USD/JPY will start correcting long before the first Fed rate cut, given the size of the carry trade,” he said. Shusuke YamadRate and FX Strategist at Bank of America.
The Fed is expected to make its first rate cut in the first half of 2024, possibly in May.