Rumors of an early election stir the market: Expectations for fiscal expansion rise
The market is recently repricing the "Japanese political variable." Reuters, citing Japanese media, reports that Japanese Prime Minister Sanae Takaichi is considering holding an early House of Representatives election in February 2026 to consolidate the ruling base; investors are thus betting on potentially more aggressive future fiscal spending.
Meanwhile, Reuters also highlights a more realistic concern: if the election slows the progress of key bills, Japan may face financing pressure similar to a "fiscal cliff" (with the issuance of deficit bonds and the pace of budget advancement as focal points).
Yen and Japanese bonds under pressure: Exchange rate approaches 160, yields rise to multi-year highs
Driven by these expectations, the yen and Japanese government bonds have weakened recently. Market performance summarized by Investing.com shows the USD/JPY once dipped to around 158.9, while the benchmark 10-year Japanese bond yield rose to about 2.165%, both in the multi-year high range.
Reuters also reports that Japan's Finance Minister Satsuki Katayama has communicated with U.S. Treasury Secretary Janet Yellen, expressing concerns about "unilateral depreciation" and suggesting that if the volatility becomes disorderly, potential action cannot be ruled out.
Why it affects U.S. stocks: The "funding chain" of carry trades might be forced to reverse
The key lies in the changing cost and risk structure of "yen carry trades": When Japan's long-term yields rise and the Japan-U.S. yield spread narrows, the attractiveness of borrowing yen to allocate to high-yield overseas assets decreases.
More importantly, if officials intervene around 160 or market expectations of intervention escalate, some funds may be forced to quickly cover yen positions, leading to short-term selling pressure on U.S. stocks, commodities, and crypto assets.
The scale is not small: BIS's range suggests the potential intensity of "deleverage shock"
The scale of carry trades is difficult to measure precisely, but the Bank for International Settlements (BIS) once provided a range estimate based on statistical measures: If Japanese investors' foreign currency asset hedging ratios differ, the scale of "supplying yen" through foreign exchange derivatives could fall in the range of about $1.3 trillion to $1.7 trillion. This scale means that if large-scale unwinding occurs, volatility could be magnified.
Lessons from the past: The unwinding wave in 2024 once triggered global market shock
Market sensitivity to "carry reversal" is not unfounded. Reviewing the volatility of August 2024, Reuters noted that Japan's Nikkei index experienced its most significant one-day drop since 1987 (about 12.4%), accompanied by simultaneous pressure on global risk assets; one of the triggers at the time was the rapid unwinding of yen-related carry positions.
What to watch next: the 160 threshold, budget path, and interest rate rhythm
The next points of observation are focused on three lines:
- Exchange rate and intervention signals: Whether there are verbal/actual intervention signs around 160 in USD/JPY;
- Budget and deficit financing progress: Whether the early election affects the passing of key bills and budget implementation;
- Yield spread and volatility: Whether the rise in Japanese bond yields persists and whether there are signs of passive deleveraging in overseas risk assets.
