In 2024, Japanese official intervention in the foreign exchange market to support the yen is becoming a norm in the foreign exchange market, but Tokyo authorities have changed their strategy, making it more difficult for investors to predict when and how they will intervene.

The new intervention strategy, which may have caught traders off guard, has helped Japanese financial authorities reverse the yen's course. The Bank of Japan is estimated to have spent nearly 6 trillion yen ($38.4 billion) this month to support the yen at the request of the Ministry of Finance.

The new round of intervention is not surprising after the dollar hit a 38-year high of around 160 yen two weeks ago and Tokyo has warned almost daily that it will intervene if volatility becomes too high or if the yen's level does not reflect underlying economic and monetary policy realities.

Although no official intervention has been confirmed, when the first round of intervention measures was implemented on July 11, traders believed that the Bank of Japan took advantage of weak U.S. inflation data and a weaker dollar to sell dollars to support the yen.

At the time, the USD/JPY exchange rate fell from 161 to around 158.3 and fell below 155 within a few minutes, which immediately aroused traders' suspicion of intervention. Chris Weston, market strategist at Pepperstone, said:

“It appears that the Ministry of Finance and the Bank of Japan may have become ‘momentum traders’, seizing the opportunity to strike when the market is most vulnerable.”

Typically, the Bank of Japan intervenes when U.S. Treasury yields and the dollar rise. "This time it's different, in fact, we're seeing this unusual yen move during the dollar sell-off," said Hiroyuki Machida, head of Japanese foreign exchange and commodity sales at ANZ Bank.

“Assuming that large, sudden moves in the yen over a short period of time are the result of intervention, then it is indeed different from the pattern we have seen in the past,” Machida said.

A suspected second round of intervention by Japanese authorities on July 12 unnerved investors to the point that another rebound on July 15 was initially knee-jerk attributed by traders to intervention, but subsequent market data suggested that intervention most likely did not occur.

BofA Securities, which has long argued that the Bank of Japan could follow the Swiss National Bank and opt for conventional intervention, said Japanese authorities likely had three objectives in mind: maximizing impact, increasing surprise and curbing excessive speculation.

Has the intervention worked?

For now, the intervention appears to be working. The yen has risen nearly 4% this month, and options positioning has begun to change, with traders less confident than before that the yen will weaken further.

Derivatives markets show that the premium for buying yen options over selling options in the next month is rising, suggesting traders are becoming more bullish on the currency.

The main driver of the yen's 30% depreciation over the past four years is that Japan's interest rates are much lower than those in other countries, especially the United States.

The Bank of Japan will hold a monetary policy meeting on July 31. The economic data released by Japan recently are mixed. The market believes that the probability of the Bank of Japan raising interest rates to 0.1% is about 50%.

At the same time, the market is almost certain that the Federal Reserve will cut interest rates by 25 basis points to a range of 5.00%-5.25% at its September meeting.

Lee Hardman, currency strategist at MUFG in New York, said July's currency moves "suggest a change in Japan's strategy to become more proactive rather than reactive in supporting the yen."

Speculators still hold record short positions. Since the beginning of 2024 alone, speculators have doubled their short positions on the yen to nearly $12 billion. ANZ's Machida said that with short positions of this size, the prospect of more unpredictable intervention is "frightening." He said:

“It’s incredibly painful. You could have been sitting on a winning streak and made a killing when USD/JPY was at 161, and then it’s down to 156. If the Bank of Japan intervenes again at this level, 156, you’d probably want to sell your money.”

Article forwarded from: Jinshi Data