China Securities Co., Ltd.: Yen intervention again, whats different this time?

Between July 30 and August 1, the yen experienced several sharp rises. By the end of this week, the USD/JPY exchange rate had decreased from a peak of 163.9 to 157.4, resulting in a 4% appreciation of the yen. From the price trend, the yen's exchange rate this week shows signs of official intervention: the USD/JPY has seen multiple instances of a steep drop within minutes, accompanied by significantly increased trading volume. Estimates from Bloomberg and others suggest that the scale of the first round of yen-buying intervention on July 30 could have reached 8.45 trillion yen (approximately 52.8 billion USD). Why is the Japanese Ministry of Finance intervening at this time? The core logic behind the Japanese Ministry of Finance's intervention at this moment is based on taking advantage of the situation. First, the dollar index has shown signs of weakening. The July FOMC meeting did not result in an interest rate hike, and with Powell's dovish statements, coupled with slightly disappointing GDP and PCE data, expectations for an interest rate increase have cooled. Doubts about the Fed have increased, leading to an overall weakness in the dollar index, which provides a window for Japan to intervene. Second, although the Bank of Japan maintained its policy interest rate on Thursday, Governor Kazuo Ueda conveyed a certain hawkish signal during the press conference, with the market expecting another interest rate hike in September or October. Third, both the U.S. Treasury Department and New York Fed have expressed concerns about the yen being excessively undervalued, and the United States' public endorsement has significantly alleviated any external constraints that Japan might face in its unilateral intervention. The Ministry of Finance's decision to intervene at this time is deemed to be cost-effective. It is noteworthy that during the previous intervention on April 30, the Japanese Ministry of Finance also chose to enter the market a day after the FOMC meeting, when internal disagreements within the FOMC were significant. When selecting a timing for intervention, the Japanese Ministry of Finance may have considered potential effects of the Fed's policy implementation and prevailing divisions that could attract market attention. Will the U.S. intervene? How will it intervene? Why will it intervene? According to reports from CCTV Finance and other media, the United States may have effectively participated in a joint intervention in the yen's exchange rate, and the Japanese Ministry of Finance has publicly stated that it has received more than just verbal support from the U.S. In January of this year, the U.S. Treasury Department also sought exchange rate quotes from banks, which was viewed as part of a joint market intervention with Japan, but ultimately, no substantive action was takenit was merely a signaling gesture. From the perspective of this round of intervention, the likelihood of substantial U.S. involvement appears to be high. Reports from CCTV Finance and other media suggest that the U.S. Treasury and the New York Fed may have engaged in operations to sell euros and buy yen. Observing the market, there was a noticeable spike in the euro to dollar exchange rate around 9:30 PM on the 31st (opening of the New York session), while at the same time, the euro to yen and dollar to yen rates both fell, indicating a potential connection to the reported operations. Why is the U.S. helping to stabilize the yen? Possible reasons: Japan's intervention in the exchange rate requires selling dollar assets and buying yen, which could negatively impact U.S. Treasury bonds. By providing verbal support and selling euros, the U.S. may assist Japan in reducing the necessity of selling dollar assets to a certain degree. Will the Japanese Ministry of Finance continue to intervene? In comparison with previous interventions: On one hand, the scale of this round of intervention is not extreme (though it has U.S. support), retaining some space for further action; On the other hand, this weeks appreciation of the yen has already been significant and clearly exceeds the level seen in April of this year, thus providing conditions for temporary observation. It is expected that the Japanese Ministry of Finance will wait to observe market trends before deciding on future actions. Next Monday, if USD/JPY experiences fluctuations or slowly climbs toward 160, the probability of a re-intervention will be low; conversely, if it rises disorderly, there remains a possibility of continued intervention. What will happen to the yen's exchange rate going forward? The impact of routine interventions on the yen's value tends to be transient. As we noted in our earlier piece, "Four Questions About the Weakening Yen: Global Forex Tracking (1)," based on historical experience, the effects of exchange rate interventions are usually short-lived, with the yen typically returning to its prior trend and reversing most of its gains within two weeks. However, the substantial involvement of the U.S. may allow the yen to receive support for a longer duration this time. A significant difference in this case is that the U.S. has taken action at the trading level, moving beyond mere inquiries or verbal support, which may provide the market with a stronger "credible threat." An example is that in March 2011, in response to the excessive appreciation of the yen, the U.S. intervened, resulting in a noticeably longer-lasting effect. Overall, in the short term, the yen may hover within a range of 155 to 160, but it is likely to return above 160 in the second half of the year, unable to reverse the larger trend of depreciation. How should we assess the impact of the yen's appreciation? Is market risk significant? This can be understood from several dimensions: First, short-term pressures on U.S. Treasuries may increase. The underlying challenges facing U.S. Treasuries, such as oil prices, inflation, and doubts about Powell's credibility, suggests that the Ministry of Finance's intervention, which cannot avoid selling dollar assets, could further pressure Treasuries. Second, the weakening dollar index may provide some liquidity benefits for global risk assets (such as tech stocks). However, this transmission channel requires the premise that there are no systemic reversals in carry trades. Generally speaking, a strong dollar is relatively unfavorable for various asset classes. A complete reversal of carry trade is not a baseline hypothesis, but if the yen appreciates unexpectedly, it could trigger considerable shocks. According to our previous analysis, the yen is expected to experience short-term fluctuations and a medium-term weakening, making the probability of a carry trade reversal low. There are significant differences between the current macro environment and that in mid-2024: at that time, the Fed began a series of interest rate cuts, and the Bank of Japan raised rates unexpectedly, which reversed depreciation expectations for the yen, leading to a carry trade reversal that severely impacted global markets. Currently, the Fed is leaning hawkish, and the Bank of Japan is cautious about rate hikes, relying solely on fiscal intervention. However, it should be noted that there are currently massive short positions in the yen, comparable to those seen in 2024, and if unexpected factors lead to a trend appreciation of the yen, the risks of a carry trade reversal in the market should not be underestimated. This article is sourced from the WeChat account of "China Securities Co., Ltd. Securities Research," authored by Qian Wei, with editorial assistance from Chen Qiuda.