Yen Carry Trade Unwind Fears Revived, but Large-Scale Liquidation Risk Remains Low

Rising Japanese government bond yields and a stronger yen are fueling concerns about a potential unwind of the yen carry trade. This trade involves borrowing in low-yielding yen to invest in higher-yielding overseas assets, particularly in the US.

The current situation is being driven by simultaneous gains in Japanese yields and the yen. Japan's 10-year government bond yield recently climbed above 3% for the first time since 1996, while the dollar-yen exchange rate fell to as low as 158.8 yen.

Despite these developments, securities firms are downplaying the risk of a large-scale liquidation, citing the still-wide US-Japan interest-rate gap and Japan's expansionary fiscal stance. They argue that even if Japan raises its policy rate again, the gap with major economies such as the US would remain wide enough to preserve the incentive to borrow in yen and invest in overseas assets.

Analysts point out that Japan's expansionary fiscal stance is adding pressure through inflation and yen weakness, making policy choices more difficult for Japanese authorities. However, they also note that yen volatility could affect Asian equities and risk assets in the short term.