The Yen Intervention Domino Effect
The Japanese yen is one of the most important and influential currencies in the global financial system. The currency has been on a prolonged decline relative to the US dollar since late 2021 as the US-Japan interest rate differential widened sharply, making US dollar assets more attractive. This interest-rate differential
remains wide despite the Bank of Japan (BOJ) increasing rates.
The BOJ can intervene to prop up a weakening yen, as we saw in April and July 2026. These measures, however, can have consequences that reach far beyond its borders.
Domino One: Japan Steps in to Defend the Yen.
Years of yen depreciation have pushed up the cost of imported goods and added to inflationary pressure in Japan. With the yen falling towards ¥164 to the US dollar in late July, Japanese authorities stepped in and bought yen. The problem is that supporting the yen requires Japan to draw on its foreign currency reserves, much of which is invested in US assets.
In previous interventions, this has meant selling US Treasuries to raise the dollars needed to buy yen. Therefore, BOJ’s attempt to stabilise the currency can have direct implications for US bond markets, where additional selling pressure can tighten financial conditions globally.
Bank of Japan yen intervention from August 2022 to August 2026 (JPYUSD)
Domino Two: Pressure on Treasuries.
To defend its currency, Japan would need to offload a significant volume of Treasuries. But this would flood a market already under pressure with extra supply. More supply typically means falling prices and rising yields.
Higher yields raise borrowing costs for the US government and tighten financial conditions everywhere. In other words, Japan's problem becomes America's problem too, giving the US a real incentive to keep Japan from becoming a forced seller. A distinct reversal of the old US mantra that “the dollar is our currency, but your problem”.
Domino Three: The US Gets Involved.
The US joined Japan in supporting the yen, an unusually hands-on move in currency markets. Rather than selling US dollars outright, the US sold euros to fund yen purchases.
Japan has indicated it plans to use the Federal Reserve's FIMA Repo Facility, which allows foreign authorities to obtain US dollars using their US Treasury holdings as collateral, rather than selling those bonds into the market. The facility was created during the 2020 pandemic to provide dollar liquidity when markets were under stress.
This gives Japan another source of dollars to defend the yen without having to sell Treasuries outright. In effect, the US is helping Japan defend its currency while trying to prevent that defence from becoming a problem for the US bond market.
Domino Four: The Risk Spreads to Global Markets.
Years of low interest rates in Japan allowed investors to borrow yen cheaply and invest the money in higher-yielding assets elsewhere (known as the carry trade). If the yen strengthens significantly, the currency cost of repaying those borrowings rises, reducing the appeal of the trade and potentially encouraging investors to unwind their positions.
The money borrowed in yen has been invested across global markets, including US technology stocks, emerging markets, corporate bonds and other risk assets. A sharp move in the yen would therefore force investors to sell assets across the board.
What Happens Next?
The risk is less a gradual yen recovery than the speed of the move. A sharp yen appreciation could trigger broader deleveraging and selling pressure across global markets. A sustained yen recovery would likely require a narrower Japan-US interest rate gap, through further BOJ hikes, lower US rates, or both. This makes the outlook for both central banks particularly important.
Intervention may support the yen in the near term, but a long-term recovery is far from certain. History shows that when markets lose confidence in a currency strategy, the eventual reversal can be abrupt, as seen when the Bank of England was forced to abandon its defence of sterling in 1992.
For investors, the key risk is the speed of any yen move: gradual strengthening may be manageable, while a sharp reversal could unsettle global markets.
Oakleigh Investment Management Managed Account/Funds
Oakleigh Investment Management portfolios are constructed with a focus on owning high-quality businesses and building portfolios that can perform through the cycle.
Over recent quarters, all portfolios have seen a progressive reduction in exposure to banks and other cyclical sectors, while increasing our weighting to more defensive assets and maintaining a tactically higher allocation to cash in more recent months. With cash yields now at their most attractive level in many years, we're being compensated while retaining the flexibility to deploy capital when the opportunity arises.
Judo's black belt breakdown may ultimately prove to be just one bad day for one bank. Or it may be remembered as an early signal of a changing economic environment. Either way, our focus remains on ensuring our portfolios are well positioned to navigate an evolving investment landscape.
References:
Why a Yen Reversal Could Shake Treasuries, Tech Stocks and Global Markets | Investing.com
https://www.federalreserve.gov/monetarypolicy/fima-repo-facility-faqs.htm
Federal Reserve Board - Federal Reserve announces establishment of a temporary FIMA Repo Facility to help support the smooth functioning of financial markets
https://www.ft.com/content/47d2ab3c-0423-49ed-89ca-68683761ed98
Time for an intervention | LSEG
Operation of monetary policy | Bank of England
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