(Bloomberg) -- The yen held onto its biggest monthly gain in a year-and-a-half and Japanese bond yields climbed as traders increased bets that the central bank may raise interest rates on Wednesday.
The currency has surged more than 5% versus the dollar in July amid expectations that the gap between the Bank of Japan’s policy rate and the Federal Reserve’s benchmark is poised to narrow. Japan’s two-year and 10-year bonds fell, sending yields higher. The nation’s stocks, which have benefited from yen weakness, declined more than 1% before the Topix index erased its drop.
The currency swung between small gains and losses in jittery trade and was at 152.75 to the dollar at 12:35 p.m. in Tokyo. It was supported by comments from Japan’s new currency chief, who said recent yen weakness had done more harm than good for the Japanese economy. Despite its July advance, the yen is still down about 8% against the greenback this year in the worst performance among Group-of-10 peers.
Overnight-indexed swaps, which have been volatile in recent days, jumped to price in an 78% chance of a 15 basis points increase by the BOJ, down from 49% on last Wednesday.
Public broadcaster NHK and the Nikkei have reported that board members will discuss raising interest rates to around 0.25% from the current range of 0 to 0.1%.
Reports of the BOJ “considering” raising rates can be interpreted as meaning that policymakers have already made the decision, said Mari Iwashita, chief market economist at Daiwa Securities Co.
The BOJ has flagged that it will likely announce a substantial cut in its bond purchases Wednesday, with market focus on the exact size and speed of the reductions, and the possibility of a rate hike.
The yield on benchmark 10-year bonds rose 6 basis points to 1.055% while the yield on the two-year maturity increased as much as 7.5 basis points to a 15-year high of 0.445%.
If the BOJ disappoints expectations for policy tightening, and the Fed later Wednesday does anything to damp the view that it will cut borrowing costs in September, the yen is vulnerable to a sharp drop.
That in turn could trigger Japanese authorities to intervene in the market to stem losses, as they are suspected to have done on four occasions already this year.
Action will be taken “if it’s really needed, after comprehensively considering it from multiple angles,” Atsushi Mimura, vice finance minister for international affairs, told Bloomberg in an interview. He referred to a Group-of-20 agreement that excessive volatility and disorderly currency movements can have a negative impact on economic and financial stability.
The currency’s turnaround this month from a 38-year low of 161.95 against the dollar was helped along by Japan apparently stepping into the market. The gains accelerated amid an unwinding of global carry trades, and a huge pullback in bets against the yen by hedge funds. Data due just hours after the BOJ policy decision will give the market a gauge of how much the Ministry of Finance used to support the yen over the past month.
Japan spent a record ¥9.8 trillion ($64 billion) in late April and early May in an attempt to arrest the currency’s decline.
Meanwhile, Japanese stocks fell in morning trading, with carmakers among the biggest drags on the Topix. The Topix reopened slightly positive for the afternoon session.
“It appears that the market is factoring in rising interest rates and a strong yen,” said Takeru Ogihara, a chief strategist at Asset Management One. “The July rate hike has been factored in to some extent, but there will be a bit of a surprise and it will take some time to digest.”
--With assistance from Masaki Kondo, Mia Glass, Saburo Funabiki, Issei Hazama, Hideyuki Sano and Momoka Yokoyama.
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