The alliance between the United States and Japan positions the Bank of Japan as a cooperative party, but the true determinant of future trends is the US dollar.

Author: @Web3Mario

Abstract: This week, I have been studying some APIs related to Telegram Bot, and the basic framework of the TON contract has been completed. I was initially quite happy, but the sharp drop in the entire cryptocurrency market on Monday really cast a shadow over my mood. I did have some expectations for this result, but I didn't expect it to happen so quickly and so fiercely. Therefore, I have organized some of my views and would like to share them with everyone, hoping that everyone can stabilize their mindset and not let panic affect their investment decisions. Overall, the significant retreat of risk assets led by US technology stocks in this round is mainly due to the aggressive interest rate hikes by the Bank of Japan, which has caused many yen interest rate differential arbitrage trades (JPY Carry Trade) to become ineffective or face significant risks, specifically in three aspects: exchange rate fluctuations, interest rate reversals, and liquidity risks. Faced with these risks, the "Watanabe wives" are unwinding their positions to repay yen debts and reduce risks.

Abenomics and Japan's long-term negative interest rate environment have made the yen an important source of financing and carry trade assets globally

I believe that those with some basic knowledge of economics are familiar with the so-called "Lost 20 Years of Japan." After the bursting of the Japanese economic bubble in the early 1990s, the economy entered a long period of stagnation, known as the "Lost Decades." During this period, economic growth was slow, and the willingness of businesses and individuals to invest was low, leading to sustained deflation. In response to the economic downturn, the Bank of Japan began implementing low-interest rate policies in the late 1990s, lowering the benchmark interest rate to near-zero levels in the hope of stimulating economic activity. As the effectiveness of traditional monetary policy tools diminished,

It was in this background that a series of economic policies were introduced by former Japanese Prime Minister Shinzo Abe after he took office for the second time in 2012. The core objective of these policies was to stimulate economic growth, end long-term deflation, and address structural issues in the Japanese economy. The core framework of Abenomics consists of the "three arrows," and here I will briefly introduce its bold monetary policy, which mainly includes two aspects: firstly, the Bank of Japan implemented a large-scale quantitative easing policy. This means that the Bank of Japan injected a large amount of funds into the market by purchasing government bonds and other assets to lower interest rates and increase liquidity. Secondly, the Bank of Japan officially introduced a negative interest rate policy in 2016. This policy aimed to further reduce interbank borrowing costs, encourage funds to flow more into the real economy, thereby promoting consumption and investment, and raising inflation expectations. The so-called "negative interest rate" means that the real interest rate is negative, i.e., the interest rate is lower than the domestic inflation rate.

In this context, a form of arbitrage trading gradually became popular, known as the yen carry trade (JPY Carry Trade), and the market has given an interesting name to the traders who engage in this arbitrage trade, calling them "Watanabe wives." The so-called yen carry trade refers to an investment strategy based on interest rate differentials. Its basic principle is to borrow low-interest rate currency (such as the yen) and then invest the funds in high-interest rate currency or high-yield assets to earn interest differentials. The operating principle is as follows:

• Borrowing yen: Since interest rates in Japan are very low (sometimes even close to zero), investors can borrow yen at a very low cost.

• Exchanging for high-yield currency: The borrowed yen is exchanged for another currency with a higher interest rate, such as the Australian dollar or New Zealand dollar.

• Investing in high-yield assets: The funds are then invested in bonds, deposits, or other assets in the country with the high-yield currency to earn higher interest income.

• Interest differential income: The investor's profit comes from the interest rate differential between borrowing costs (low-interest rate yen loans) and investment returns (high-interest rate assets).

In fact, this interest rate differential arbitrage trading is also widely spread in the DeFi field, with a typical example being the LSD-ETH interest rate differential arbitrage, which involves using stETH as collateral in lending platforms like Compound to borrow ETH, and then converting it back to stETH. If the borrowing rate of ETH is lower than the yield rate of stETH throughout the process, there is room for interest rate differential arbitrage. The same applies in the yen carry trade market. In general, there are two main operational paths: the first involves using US dollar assets as collateral to borrow yen and directly purchase high-dividend stocks of Japan's five major trading companies. This is actually one of Warren Buffett's core investment portfolios in recent years. The second path involves borrowing yen, converting it back to US dollars, and then purchasing high-yield financial instruments such as US stocks and bonds. This is similar to the circular lending strategy in DeFi that was just introduced.

This type of trading became extremely popular as the United States officially entered an interest rate hike cycle in 2022. Therefore, with the Federal Reserve's interest rate hikes, major global economies have entered interest rate hike cycles to stabilize exchange rates and prevent capital outflows. Among them, only Japan still adheres to its low-interest rate policy, making the yen the most important low-cost source of financing in the tightening cycle. Some may argue that the Chinese yuan also has low interest rates, but considering the international political background and the dividend of China's financial sovereignty, the yuan is not suitable as a carry trade asset. Therefore, it can be said that in this round of tightening cycle, the reason why the US "Big Tech Seven" market is still "running as usual" is largely due to the support of the yen.

This has brought both positive and negative impacts on Japan. On the positive side, due to the existence of the "Buffett carry trade path," Japanese stocks have experienced a long period of growth. This has brought about a rare "wealth effect" in Japan. We know that the vitality of an economy is mainly built on the wealth effect. Only when the public can easily acquire wealth and maintain an optimistic outlook on future returns will they dare to invest with leverage or consume. This is what creates economic vitality. With the drive from foreign capital, Japan has set off a frenzy of "Nikkei valuation," and the wealth effect brought about by this has officially transformed Japan from a long-term deflationary state to mild inflation, which can be said to have realized the original vision of Abenomics.

However, on the other hand, with the existence of another carry trade path, a large amount of yen has been exchanged for US dollars to purchase US dollar assets, leading to a long-term devaluation trend of the yen against the dollar. From 2021 to 2024, the USD/JPY price rose from a low of 103 to 160, with the yen depreciating by over 60%. However, considering that the fluctuation of currency exchange rates does not have such a strong impact on the sense of gain of the country's citizens, even under such devaluation, domestic inflation in Japan has been steadily increasing.

The forward guidance of the Bank of Japan and the showdown with the speculative market have recently come to an end, and the yen has experienced a V-shaped reversal

The entire trend has experienced a reversal recently, which naturally stems from the end of the US dollar interest rate hike cycle. In early 2024, the newly appointed Governor of the Bank of Japan, Haruhiko Kuroda, reversed the negative interest rate policy of the previous governor and began providing forward guidance on interest rate hikes to the market. However, the market seemed to be skeptical and chose to confront the Bank of Japan, leading to the impact of the yen depreciating to below 160 in the first half of this year. One interpretation of this is that the speculative market does not believe in the sustainability of inflation in Japan and expects Japan to return to its old deflationary state after the US enters a rate-cutting cycle. Another interpretation is related to the complex hedging demand in a yen interest rate differential arbitrage path, with the core of this path being Nvidia. In simple terms, Japanese electronic chip stocks, Taiwanese semiconductors, and Nvidia have a strong correlation in stock prices, which is related to political and industrial transfer backgrounds. For a long time, buying Japanese chip stocks has been an important channel for capturing alpha returns in the AI sector. However, in 2024, there was a clear trend of "shrinking" in the US stock market, with capital seeking refuge in top companies, particularly Nvidia. This caused Japanese chip stocks to gradually decouple from Nvidia, leading to a demand for hedging to avoid losing future alpha returns by selling Japanese electronic stocks and buying Nvidia. This viewpoint is from an economist I greatly admire, Fu Peng. If interested, you can read this logic on his public account.

Regardless of the reasons, this confrontation ended last Wednesday when the Bank of Japan officially raised interest rates by 15 basis points, far exceeding market expectations. This marked the beginning of a reversal in the market. Firstly, it can be seen that the USD/JPY exchange rate quickly rose from 160 to 143 at the time of writing, leading to the official end of the yen carry trade, with many traders starting to unwind their positions. This resulted in a large amount of USD-denominated risk assets being sold and then exchanged for yen to repay debts.

So, after the weekend, the market fully absorbed the news of the interest rate hike by Japan, and the unwinding of positions officially reached a climax. This is the source of the sharp drop in cryptocurrency assets on August 5th. There is also evidence to support this: in this round of decline, the drop in income-generating assets was much higher than that of zero-yield assets like Bitcoin, particularly Ethereum. This is because they are the core targets of interest rate differential arbitrage.

In the US-Japan alliance, the Bank of Japan is a cooperative party, but the US dollar truly determines future trends

Here, I hope to briefly look ahead to future trends. I still hope that everyone will not be scared by this pullback, because although the scale of the yen carry trade is not small, I believe that in the US-Japan alliance, Japan is actually a cooperative party. The reason for the recent interest rate hike announcement is simply to align with US monetary policy. We know that the reason the US has not entered a recession early and the reason the Federal Reserve has been slow to cut interest rates is due to the activity in the US stock market. Even though small and medium-sized enterprises are suffering, the wealth effect brought about by the "Big Tech Seven," particularly Nvidia, has kept the US GDP from showing a clear recession driven by the financial sector. If the US were to cut interest rates abruptly, it would greatly stimulate the risk market, potentially leading to a resurgence of inflation, which is clearly unacceptable. However, considering the current economic situation in the US, the US has no choice but to cut interest rates, so the Federal Reserve needs to find a reason to do so. This reason is actually the pullback in the US stock market, which explains the actions of the Bank of Japan. Therefore, when the US officially enters a rate-cutting cycle and liquidity becomes loose again, cryptocurrency assets are bound to recover. So, everyone should remain patient and optimistic about the future. Of course, for those with high leverage, it may be necessary to consider reducing leverage.

免责声明：本文章仅代表作者个人观点，不代表本平台的立场和观点。本文章仅供信息分享，不构成对任何人的任何投资建议。用户与作者之间的任何争议，与本平台无关。如网页中刊载的文章或图片涉及侵权，请提供相关的权利证明和身份证明发送邮件到support@aicoin.com，本平台相关工作人员将会进行核查。