0xcubiz

Okay, I’ll do a high level 101 of the yen carry trade situation. I don’t trade fx so there’s stuff in here I may not get perfect fyi but should give you the gist. In the 1990s Japan saw a major economic and market boom. Eventually, a mega bubble occurred that led to a major deflationary impulse on the country. Due to demographic debt and a few other capital flow dynamics, Japan had multiple decades of sluggish deflationary growth This led to Bank of Japan to run unorthodox monetary policy to try and stimulate. Bank of Japan was the first CB to bring rates negative, and were the originators of QE as we know it that Bernanke adopted for the US. Eventually they even did yield curve control on the long end of the Japan yield curve. Due to the negative interest rate on Yen, this had implications on FX and futures contracts based on them. Hedge funds, Japanese domestic investors, and other speculators could borrow at a negative rate (be paid to borrow) and then swap that Yen into say USD which had a positive interest rate and then either earn the spread between those two currencies (FX Forwards have rate differentials priced into the contracts) which creates a positive carry. Hence Yen carry trade. Similar to how crypto funds can short futures and long spot cash and earn the spread on the two. Now, these speculators could also take that position and then leverage up by purchasing US stocks, especially us equities. This flow dynamic commonly referred to as the Yen carry trade has existed for nearly two decades. There has been many traditional macro funds that have looked at the fiscal situation in Japan and believed it was unsustainable and the Boj would eventually need to raise rates. To express this trade they’d short 10YR JGB bonds for example. This is traditionally referred to as the widow maker trade since so many macro funds went bust trying to time this. Now, last week Boj finally raised rates above 0 for the first time since this all started and the dynamic of forcing these folks to pay to borrow yen instead of being paid to borrow yen has sent a lot of risk models such as var into unacceptable levels that caused them to get the tap on the shoulder to unwind it. Unfortunately this is happening at an unlucky moment where us equities were very vulnerable and very extended. As well, right as boj hikes is when the fed is about to cut for real finally, which also strengthens the Yen making the carry smaller. This is now all unwinding as all these risk models flash the same big red signals and we’re getting this unwind. I hope this helps!