BoJ Rate Hike Expectations Skew Risk Toward Yen Weakness

Expectations of a Bank of Japan rate hike at the September meeting have risen to around 80%, driven by recent reports and rising oil prices, with markets pricing in roughly a 50% chance of two hikes by year-end.

However, MUFG notes that these expectations have not translated into yen buying, highlighting a disconnect between market pricing and currency movements.

The bank points to July inflation data showing price growth accelerating from the previous month, despite downward pressure from rice prices, reinforcing the case for further increases ahead.

Long and super-long dated Japanese government bond yields remain under upward pressure due to reports on next fiscal year's budget and speculation over a possible Cabinet reshuffle as early as next month.

The Nikkei 225 has struggled to extend gains, contributing to headwinds facing Japanese assets more broadly.

Against this backdrop, MUFG notes that the yen has actually weakened against currencies other than the dollar, even as rate hike expectations have built.