The Yen Carry Trade

Stock markets around the world are crashing right now, but why? The answer to this question is the Yen carry trade, a term you'll probably hear many times this week. So what exactly is the Yen carry trade and why did it cause a market downturn?

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It all started after the Bank of Japan (BOJ) decided to raise rates at their most recent meeting. The BOJ raised rates to ~0.25% in their second rate hike since 2007, effectively ending negative rate policy. For years, traders took advantage of these ultra low rates.

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The Yen Carry trade explained: For years, investors would borrow Yen at ultra low rates, such as ~0.4%, and use these Yen as a form of leverage. Investors could convert these Yen to US Dollars or other currencies and get almost free margin. Low rates made this possible.

The wide spread between rapidly rising rates in the US and other countries and negative rates in Japan made it possible. However, as the BOJ began raising rates, this resulted in an unwinding of the carry trade. Especially as rate cuts are beginning in the US and EU.

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As a result, the Japanese Yen strengthened and the USD/JPY currency pair just hit its lowest level since December 2023. You now receive 142 Yen for every US Dollar compared to 160 Yen for every US Dollar a few weeks ago. But here's why this is the key point:

As the Yen strengthens, many of these Yen carry trades are being "margin called." Suddenly, the era of "free" Yen loans is coming to an end. As these margin loans are called, the underlying assets are being sold and crashing equity markets. The carry trade is unwinding.