We have to keep an eye on the Bank of Japan's movements recently. Yesterday, I saw the news, and the Japanese government seems to have acquiesced to the central bank's possible interest rate hike in mid-December. As I said before, if the carry trade really goes to recede, there will be a large amount of money withdrawn from the US market - first exchanging the US dollar for the yen, and then returning to Japan. This will directly lower the exchange rate between the United States and Japan.

In the past two days, the exchange rate between the United States and Japan has fallen continuously, falling below the key position of 155. As previously analyzed, the continued decline in the exchange rate indicates that funds are withdrawing from the US dollar and returning to the yen. Although this shock should not be as violent as last July and August, if the U.S.-Japan exchange rate continues to fall sharply, the impact will definitely be there.

In addition to tracking the trend of the exchange rate, there are several core indicators to judge the ebb of carry trades:

First, the change in interest rate spreads. The difference between the yields on 10-year Treasury bonds between the United States and Japan is currently 2.22% (4.10% in the United States and 1.88% in Japan). If it is further narrowed to less than 2%, it will accelerate the withdrawal of funds.

Second, CFTC yen short positions, which shows the scale of speculators shorting the yen. The current net short is 79.5K contracts, which is roughly equivalent to $10 billion in exposure, down 15% from early November. If you reduce your holdings by more than 20% in a week, you can basically confirm that the ebb has started. There were 160K contracts at the peak in July last year, and then plummeted by 100K.

Third, financial pressure and leverage indicators. For example, a negative value of the cross-currency basis (USD/JPY basis swap) indicates that the financing pressure on the US dollar has increased, forcing everyone to close their positions; If the liquidation scale exceeds $1 billion per day, it is a systemic risk.

The sharp impact in 2024 (VIX soared to 65 and the position collapsed by 100K) was mainly caused by the superposition of "accident + high leverage". At that time, the Bank of Japan raised interest rates more than expected and unexpectedly shrank its balance sheet; At the same time, the US non-farm payroll data for July fell sharply short of expectations, raising strong recession fears. The collision of the two events caused a relatively large liquidity shock.

The situation is different now, the market expectation is more sufficient, and there is a buffer time. Funds can be withdrawn in an orderly manner, and the VIX is still at a low level. Although the risk exists, it is more controllable and the impact should be smaller.

Of course, it depends on how the Fed's interest rate meeting in December operates. In addition to interest rate cuts, will there be any action on liquidity? Previously, New York Fed President Williams mentioned many times in November that bonds may be purchased in order to increase market liquidity. If the Fed does this, it can also hedge the impact of yen interest rate hikes to a certain extent.