(Bloomberg) — Arif Husain says he was early on the alarm about Japan's interest rate hikes last year, which he described as “San Andreas the fault of finance.
The head of fixed income at T. Rowe Price is now warning that investors “have just seen the first shift in that error and there's more” market volatility ahead after the country's rate hike in July helped fuel a sharp return of you carry out trade.
The yen rose more than 1% against the US dollar on Tuesday, touching 145.29 per dollar and snapping a four-day losing streak.
While a hawkish Bank of Japan and concern about slowing U.S. growth helped fuel strong demand for the yen on Aug. 5, investors may be ignoring a deeper root of the global slide in stocks, currencies and bonds, Husain wrote in a report. This includes the loads of Japanese money invested offshore is at risk of returning home as rates rise further in the world's fourth-largest economy.
Read more: A $3 trillion threat to global financial markets looms large in Japan
According to Husain, whose firm oversees approx 1.57 trillion dollars in assets. The BOJ's monetary tightening and its impact on global capital flows is far from simple and will have a major impact over the coming years.
The sudden abandonment of the yen carry out tradewhich involves selling Japanese currency to invest in higher-yielding assets, helped send the Nikkei 225 stock average down by the most since 1987 and spurred a rise in the VIX index of stock market volatility. Economists briefly predicted the Federal Reserve would have to cut interest rates by half a point or act between meetings — the kind of move usually reserved for a crisis.
While the yen has settled into a mid-140s trading range against the dollar, volatility remains elevated. Anticipated Fed rate cuts and further BOJ tightening could jolt markets again sooner rather than later.
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Hussein, who is ready three decades of investment experience, favors an overweight allocation to Japanese government bonds, as capital is likely to return to the country as yields rise. He also likes an underweight position in US Treasuries – securities he sees potentially under pressure as Japanese institutions leave the US for home.
Husain warned of the impact of Japan's rate hike in June 2023, when the yen was trading around the 140 level to the dollar. The currency fell as low as 161.95 per dollar this July, giving commercial shipping investors a big return if they had used it as a source of funds and exited before the August meltdown.
“At some point, higher Japanese yields could pull the country's large life insurance and pension investors into JGBs away from other high-quality government bonds,” Husain wrote. “In fact, it would realign demand in the global market.”