Citi says the current softness in the yen is closely connected to the elevated levels of Japanese stocks, with investors inside and outside Japan executing rebalancing and hedging transactions that involve selling yen. According to the bank, continued robust gains in Japanese equities will keep downward pressure on the currency as market participants adjust exposures.
Mechanics of the flow
When the value of Japanese equities rises, holders of those assets commonly hedge currency exposure by selling yen. Citi highlights this dynamic as a primary explanation for recent yen selling, noting that the behavior applies to both domestic and overseas investors who are rebalancing portfolios or implementing hedges.
Policy options to check the yen
Citi states that, under the present circumstances, the only viable ways to arrest the yen's weakening would be for the Bank of Japan to bring forward the timing of monetary policy normalization or for the Ministry of Finance to step in and buy yen. The bank adds that if equity gains continue but the pace of appreciation slows, the need for yen-sale hedging should decline and downward pressure on the currency ought to ease.
Key technical level and longer-term view
The bank identifies ¥165 per dollar as a critical near-term level to watch. At the same time, Citi says its long-term bullish scenario for the yen remains largely intact even in a scenario where Japanese equity prices climb further.
Context in market behavior
Japanese stock indexes have climbed to record levels in recent months, and that strength is coinciding with yen weakness. Citi points to the contrast between the Bank of Japan's continued ultra-loose policy stance and the tighter monetary stance adopted by other major central banks as a contributing factor to the yen's weakness against the dollar.
Outlook and caveats
Citi's analysis emphasizes that downward pressure on the yen is likely to persist so long as investors continue to rebalance and hedge in response to rising equity prices. The bank also notes conditions under which that pressure could abate - specifically, either a shift in BOJ policy or direct intervention by the Ministry of Finance, or a pronounced slowing in the pace of equity gains that reduces hedging demand.