After a prolonged period of unilateral depreciation of the US dollar, since mid-July, the yen's trajectory against the US dollar appears to have reversed. Today (July 25th), in the early morning Asia-Pacific trading session, the yen breached the 153 level against the US dollar for the first time since early May.

Market expectations for the Bank of Japan's (BOJ) interest rate decision next week, coupled with recent suspected interventions in the currency market by Japan, have led investors to close their yen carry trade positions. However, whether the yen short sentiment will return ultimately depends on the BOJ's interest rate decision next week.

The yen has risen to a level against the US dollar and the euro that exceeds the high of over two months.

So far in July, the yen has defied its previous downturn, becoming the best-performing currency among the Group of Ten (G10). In today's morning session, the US dollar touched 153.10 yen against the yen, the lowest level since May 6th.

The possibility of Japan raising interest rates again and the recent suspected rounds of foreign exchange interventions have led speculators to close their carry trade positions that use the yen as the financing currency. On July 21st, according to data from the US Commodity Futures Trading Commission (CFTC), leveraged funds reduced their net short yen positions by 38,025 contracts last week, the largest scale since March 2011. Asset management companies also reduced their short yen positions, the largest scale in a year.

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Yukio Ishiuki, a senior foreign exchange market strategist at Daiwa Securities in Tokyo, stated that after a series of interventions by Japanese authorities in the foreign exchange market, there is not much demand for selling yen. He expects that the trend of closing short yen positions will dominate before the BOJ announces its policy decision next week.

According to market speculation, after the yen fell to a level against the US dollar not seen in over 40 years earlier this month, Japanese authorities may have spent a cumulative 5.64 trillion yen to intervene in the market over two trading days on July 11th and 12th. On July 11th, the yen recorded its largest single-day gain against the US dollar since May 1st. That night, Deputy Finance Minister of Japan, Masato Kanda, stated that he could not comment on whether Japan had intervened in the currency market. Meanwhile, Yusuke Miyairi, a foreign exchange strategist at Nomura International, indicated that Kanda's ability to speak in front of the media at such a late hour in Tokyo time was "quite telling."

In addition to interventions, the market's short-term bearish view on the US dollar, fueled by investors' conviction that the Federal Reserve will cut interest rates as early as September, has also contributed to the yen's rebound in this round. However, the yen still faces a major test at the end of this month when both the Federal Reserve and the Bank of Japan will announce their interest rate decisions. Any dovish hints from the BOJ could become a reason to resume shorting the yen. Yujiro Goto, head of foreign exchange strategy at Nomura Securities, stated: "Has the situation in the yen market changed? The answer is yes, but it is too early to judge in the long term."

Some analysts have also begun to firmly believe in the yen's rebound. For instance, Jonas Goltermann, Deputy Chief Market Economist at Capital Economics, stated that the US-Japan interest rate differential is likely to continue shifting in favor of the yen, and he expects the yen to further rise against the US dollar to 145 by the end of this year. Brian Daingerfield, a foreign exchange strategist at National Westminster Capital Markets, also said: "Even if the statement issued by the Bank of Japan next week is not as hawkish as the market currently expects, the Ministry of Finance may still step in to prevent the yen from weakening. There is also the reality that the Federal Reserve seems to be approaching the start of an easing cycle."

In the view of some analysts, in addition to the US dollar, the yen's trajectory against the euro also seems to be a potential trigger for Japan's intervention in the currency market.Earlier this month (July 11th), the euro reached 175.43 against the yen, setting a record high since the inception of the euro in 1999. At that time, Citigroup warned in a research report that the euro accounts for about 20%-30% of Japan's foreign exchange reserves. After several interventions in the US dollar, Japan may also reduce its euro reserves to avoid imbalance in allocation. If the euro-yen exchange rate approaches 180, the possibility of Japan intervening in the euro is high, and it would intervene in the foreign exchange market and sell euros. Subsequently, on July 12th, the Bank of Japan conducted a currency check on the euro, which usually occurs when volatility increases and verbal intervention seems insufficient to curb exchange rate fluctuations. The last time the Bank of Japan conducted a currency check was in September 2022, and it intervened in the foreign exchange market a few days later. The euro against the yen also fell back to around 171. This morning, while the US dollar hit a new low against the yen for more than two months, the euro against the yen also touched a low of 166.13, the lowest level since May 8th.

The market is focusing on the Bank of Japan's interest rate decision next week. In addition to foreign exchange intervention, the main factor leading to the recent reversal of the yen's trend against the US dollar and the euro is the market's bet that the Bank of Japan will be "hawkish" at the policy meeting on July 30th-31st. On Wednesday, informed sources said that the Bank of Japan may debate whether to raise interest rates at next week's meeting and announce a plan to roughly halve bond purchases in the next few years, indicating the Bank of Japan's determination to steadily exit large-scale monetary stimulus policies.

Insiders told the media that the main viewpoints of Bank of Japan officials are currently divided into two factions: some officials propose to stay put in July and make a decision after consumer spending data significantly rebounds, which can also avoid bringing too hawkish a central bank image to the public; other officials, considering that the current inflation is basically in line with expectations, are open to raising interest rates in July, and are worried about many uncertainties in the future. If they do not raise interest rates in July, they may miss the opportunity to raise interest rates again this year.

Japan's economic data is indeed mixed. Japan's core inflation rate in June reached 2.6%, exceeding the Bank of Japan's target for more than two years in a row. Japan's basic wage in May also reached the highest increase in 30 years since 1993, which is enough for "hawkish" people to believe that the current conditions are suitable for another interest rate hike. Before next week's meeting, on Wednesday, the Ministry of Health, Labour and Welfare of Japan decided to raise the national average minimum wage in Japan by about 5% this fiscal year, to 1054 yen (about $6.85) per hour, setting a historical record for the highest increase. However, Japan's recent weak consumer data and household consumer confidence index also make "dovish" people firmly believe that the Bank of Japan needs to wait for more data to determine whether tax cuts and wage increases can boost consumption as expected.

Four people familiar with the Bank of Japan's thinking said that the interest rate decision will depend on how long the committee members plan to continue observing whether consumption will recover and keep the inflation rate stable near the bank's 2% target. "It is clear that the Bank of Japan is likely to raise interest rates in the next few months, and it is just a matter of time," one of them said. Another source said: "For the Bank of Japan, there is still a long way to go to exit quantitative easing. Even if it raises interest rates again this time, Japan's monetary conditions are still very loose."

More than three-quarters of the economists surveyed by the media expect that the Bank of Japan will stay put this month, and the next action may be in September or October. The interviewed economists said that although the nine-member committee generally believes that it is necessary to raise interest rates in the near future, there is no consensus on whether to do so next week or later this year.

The Federal Reserve will also hold an interest rate meeting on the same day. Given the decline in US inflation and slow economic growth over the past few months, the market expects that the Federal Reserve is very likely to send a stronger signal of a rate cut in September.

More certain than the prospect of raising interest rates is that the Bank of Japan will announce a detailed plan on how to reduce the scale of bond purchases at the July meeting. Sources said that the Bank of Japan may gradually reduce the scale of bond purchases in stages, at a speed roughly in line with the mainstream market expectations, to avoid a rapid and significant surge in Japanese government bond yields. From July 9th to 10th, the Bank of Japan held three meetings with bond investors. At the meetings, investors had different opinions on the extent and speed of reducing bond purchases, but overall, the market expected that the Bank of Japan would roughly halve the monthly bond purchases in the next one and a half to two years, from 6 trillion yen to 2 to 3 trillion yen. This reduction will reduce the proportion of Japanese government bonds held by the Bank of Japan in GDP by 13% and 17% respectively in two years. Compared with the Federal Reserve, the Bank of Japan's reduction is smaller in absolute terms, but faster in relative terms.