TOKYO, September 9 — The yen’s rise to a seven-month high is putting renewed focus on one of the most widely used strategies in global finance: the yen carry trade.
The strategy has allowed investors for years to borrow Japanese currency at relatively low interest rates and deploy the funds into assets denominated in currencies offering higher returns. But expectations that the Bank of Japan could accelerate interest-rate increases, potentially as soon as its meeting next week, are weakening the appeal of the trade.
Here is how the yen carry trade works, why it became so important to international investors and how the current environment compares with the sharp unwind seen in 2024.
HOW THE YEN CARRY TRADE WORKS
At its core, the carry trade seeks to profit from differences in interest rates between countries.
An investor borrows yen at a low cost and converts the money into a higher-yielding currency, such as the U.S. dollar, Mexican peso or New Zealand dollar. The borrowed funds can then be invested in bonds or other financial assets.
If the investment generates a higher return than the cost of borrowing, the investor earns the difference, provided currency movements do not erase the gain.
At the end of the trade, which is often designed to be relatively short term, the investor converts the proceeds back into yen and repays the original borrowing.
Dollar-yen carry trades currently offer annualised returns of roughly 2.5% to 3.5%, reflecting the interest-rate gap between the United States and Japan. Investors can potentially earn more if the yen weakens while the position is open. The return is considerably below the roughly 5% to 6% available from the strategy in 2024.
The yen has long been a preferred funding currency because Japanese interest rates remained exceptionally low for an extended period.
The modern wave of yen-funded carry trades emerged in 2013 during Prime Minister Shinzo Abe’s quantitative and qualitative easing programme. At the same time, U.S. interest rates were rising and the yen was depreciating, creating particularly favourable conditions for the strategy.
The trade expanded substantially in 2022 and 2023 as the Federal Reserve raised rates aggressively to combat inflation while the Bank of Japan maintained negative short-term interest rates. The resulting widening of the interest-rate gap, combined with a sharply weaker yen, encouraged further investment through the strategy.
More recently, yen-buying intervention by Tokyo and Washington at the end of July has prompted some carry-trade investors to consider the Swiss franc as an alternative funding currency.
HOW BIG IS THE YEN CARRY TRADE?
There is no definitive figure for the size of the yen-funded carry trade because many positions are held through different financial instruments and institutions.
One indication comes from cross-border yen borrowing. A Jefferies analysis of Bank for International Settlements data showed that such borrowing reached a record 360 trillion yen ($2.34 trillion) in March. That represented the largest build-up associated with the carry trade in roughly three decades.
Currency positioning provides another measure.
Data from the U.S. Commodity Futures Trading Commission showed that net short yen positions stood at 92,227 contracts in the week ending September 1. It was the third consecutive weekly increase, although the position remained well below the two-year peak of 163,412 contracts recorded in the week ending July 1.
The actual scale of carry-trade exposure could be significantly greater because hedge funds and computer-driven investment funds can use leverage to increase the size of their positions.
WHY THE 2026 SETUP DIFFERS FROM THE 2024 UNWIND
A rapid reversal of yen carry trades can have consequences far beyond currency markets. When investors rush to close positions, they must buy yen to repay their borrowing, while potentially selling the assets purchased with the borrowed funds. That can create pressure across global financial markets.
A dramatic example came in July 2024, when an unexpected Bank of Japan rate increase helped send the yen sharply higher. The currency moved from around 154 yen per dollar to about 141 within days.
The sudden appreciation forced investors to unwind carry positions and contributed to heavy selling in global equities. Japan’s Nikkei suffered a particularly severe blow, plunging 12.4% in a single session.
The current situation, however, does not yet show the same signs of disorder.
Bank of Japan policymakers have been signalling for weeks that another rate increase is approaching and that additional hikes could follow. As a result, investors have had more time to adjust their positions.
Equity markets have so far absorbed the prospect of tighter Japanese monetary policy alongside the yen’s gains without a comparable shock.
Analysts say the relatively orderly movement of the Japanese currency points to a change in investor behaviour. Rather than being caught off guard, market participants appear to be positioning for the possibility of higher Japanese rates ahead of next week’s closely watched Bank of Japan meeting.
