The Abnormal Phenomenon of the Synchronization Fall of the Dollar, Gold, and Bitcoin: Exploring the Impact of Yen Policy Changes

Core Viewpoints

• After the release of the macro data in July, the dollar, gold, and Bitcoin experienced a rare synchronized fall, which contradicts the usual inverse movement pattern of these assets.

• This phenomenon is mainly due to the reversal of yen carry trades, leading to a surge in liquidity demand, prompting a large number of gold and Bitcoin positions to be closed to obtain dollar liquidity.

• The Bank of Japan's interest rate hike decision reflects its determination to maintain the yen's exchange rate. Although this policy change does not have a clear direct correlation with asset prices, it may have profound effects on Japan's macroeconomy, particularly on foreign trade and high-end manufacturing.

Yen Arbitrage Trading Reversal Causes Liquidity Tightening

Historically, it is rare for gold and Bitcoin, priced in US dollars, to fall significantly in sync. Typically, these two assets have a negative correlation with the US dollar index, and due to their common anti-inflation characteristics and high liquidity, their prices tend to be positively correlated.

At the beginning of August 2024, despite weak economic data from the United States, the Federal Reserve's interest rate cut in September seemed almost certain, yet the US dollar index, gold, and Bitcoin prices all fell sharply at the same time. This unusual phenomenon is mainly attributed to the Bank of Japan's announcement to exit its yield curve control (YCC) and its first interest rate hike, leading to a reversal of yen arbitrage trades.

The yen arbitrage trade has long taken advantage of the interest rate differential between Japan and the United States, with investors borrowing low-interest yen and converting it into dollars to hold dollar-denominated assets. However, the sudden interest rate hike by the Bank of Japan has quickly narrowed the Japan-U.S. interest rate differential, eliminating the arbitrage opportunity. To avoid losses, a large number of investors were forced to liquidate positions in safe-haven assets such as gold and Bitcoin to obtain dollars for additional margin, triggering a significant sell-off of these assets.

Currently, the long-term interest rate differential between the US and Japan has fallen below 3%, and the USD/JPY exchange rate continues to decline, increasing the cost and difficulty of yen arbitrage trades. This situation is expected to last for about 3-5 months.

The long-term impact of arbitrage trading reversal on asset prices is limited

Historical data shows that, apart from the yen and Japanese government bonds, the long-term impact of arbitrage trading reversals on other asset prices is not significant. Since the burst of the Japanese bubble economy in the 1990s, there have been five rounds of arbitrage trading reversals, but the global stock market's response to each round of reversal has been inconsistent, making it difficult to summarize clear patterns.

Potential Impact of Yen Policy Changes on the Japanese Economy

The yen exchange rate and arbitrage trading reversal have formed a self-reinforcing cycle: central bank interest rate hikes lead to a narrowing of interest rate differentials and a reversal of arbitrage trading; the reversal of arbitrage trading triggers fund inflows and yen appreciation; the increased returns on yen-denominated assets further weaken the motivation for arbitrage.

Although Japan's foreign trade does not account for a high proportion of GDP, its impact on the economy cannot be ignored. Japan's exports are primarily industrial products, particularly in the automotive industry, which can provide a large number of job opportunities and drive the development of related service industries. The high efficiency and high wage levels in manufacturing are transmitted to the non-trade sector through the Balassa-Samuelson effect, promoting overall economic development.

However, against the backdrop of weak domestic demand, the significant rise in the yen exchange rate poses challenges for the Japanese automotive industry, which is competing in the global market, and the semiconductor industry, which is trying to revive. For the past 30 years, Japan has been battling deflation, and even a relative slowdown in the Federal Reserve's easing measures could lead to a significant economic downturn. The Bank of Japan's clear tightening stance undoubtedly casts a shadow over the near-term prospects of the Japanese economy.