The Japanese yen weakened past the 158 level against the U.S. dollar on October 1 after traders reduced expectations for another Bank of Japan (BOJ) interest rate hike this month. The move has renewed attention on yen-funded carry trades and the potential impact that a sudden reversal in the Japanese currency could have on global risk assets, including Bitcoin and other cryptocurrencies.
According to CNBC, the yen fell as much as 0.5% to 158.21 per dollar, making it the weakest-performing currency among the Group of 10 currencies. The decline came after the BOJ released a summary of opinions from its September policy meeting.
Markets had been looking for stronger signals that the central bank was preparing to raise interest rates again in October. Instead, swap market pricing for a rate increase by October 30 dropped below 20%, compared with more than 30% a day earlier. However, traders continued to fully price another rate increase by December.
The weaker yen could keep carry trades attractive in the short term. However, the strategy remains vulnerable to a sudden change in monetary policy, currency intervention or a sharp rebound in the yen.
Why the Yen Matters for Crypto Markets
Japan has historically been one of the world’s cheapest sources of funding because of its relatively low interest rates. Investors can borrow money in yen and use the funds to purchase higher-yielding assets in other markets.
This strategy is known as a yen-funded carry trade.
When the yen remains weak and Japanese borrowing costs stay relatively low, investors have more incentive to maintain these positions. But the situation can change quickly if the yen appreciates.
A sudden yen rally increases the cost of repaying yen-denominated borrowing. Leveraged investors may then be forced to close positions, sell assets and buy yen to repay their liabilities.
Bitcoin and other cryptocurrencies can become vulnerable during such periods because they are among the liquid risk assets investors may sell when reducing leverage.
The August 2024 carry trade unwind provided an example of how quickly this dynamic can affect crypto markets. As traders reduced leveraged positions, Bitcoin and other risk assets came under significant selling pressure.
Rising Japanese Bond Yields Add to the Pressure
The yen carry trade is also facing a changing interest-rate environment in Japan.
Japan’s 10-year government bond yield recently reached 3.075%, its highest level since 1996, while the BOJ raised its policy rate to 1.25% in September. Higher Japanese yields can make domestic assets more attractive and gradually reduce the incentive for investors to borrow yen and seek returns elsewhere.
The September BOJ meeting also showed that policymakers remain divided over the pace of additional tightening.
Several members supported higher borrowing costs, while one policymaker suggested that the central bank could accelerate rate increases if inflation begins moving above expectations. Another member argued that moving the policy rate closer to its approximate target relatively soon could give the BOJ more flexibility to respond to economic developments.
At the same time, other policymakers highlighted weaker consumption and slower services inflation as reasons for a more cautious approach.
This disagreement makes the timing of the next rate hike uncertain, even though markets continue to expect additional tightening over time.
Currency Intervention Is Another Major Risk
A rapid yen recovery could also come from Japanese government intervention.
Japanese officials have repeatedly expressed concern about excessive currency moves. According to the information cited by CNBC, Japan’s top currency diplomat Atsushi Mimura recently warned markets to take recent messages from Tokyo and Washington regarding the yen seriously.
For carry traders, intervention can be particularly disruptive. If authorities take steps to strengthen the yen, investors holding leveraged short-yen positions could face losses quickly.
The resulting chain reaction could involve investors closing carry trades, selling overseas assets and buying yen. If enough traders act simultaneously, increased yen demand could accelerate the currency’s rise and put additional pressure on leveraged positions.
Bitcoin Faces a Liquidity-Sensitive Environment
The current situation does not mean that a yen carry trade unwind is already taking place. The yen’s move above 158 per dollar has, in fact, kept the funding environment relatively favorable for carry strategies.
The bigger concern is the possibility of an abrupt reversal.
For Bitcoin and the wider crypto market, the key issue is liquidity. When investors become more cautious and reduce leverage, highly liquid assets can face selling pressure even when the underlying fundamentals of those assets have not changed.
A combination of higher Japanese yields, additional BOJ tightening and potential currency intervention could therefore create another period of volatility across global markets.
For now, traders are watching the yen, BOJ policy expectations and Japanese bond yields closely. A delayed October rate hike may provide temporary support for yen-funded trades, but the prospect of further monetary tightening means the underlying risk has not disappeared.
The relationship between the Japanese yen and global risk assets is likely to remain an important factor for Bitcoin traders as markets assess the next steps from the BOJ and Japanese authorities.
