The Japanese yen is being aggressively shorted! Analysts warn: If it falls below 162, it may rapidly drop toward 170.

The Japanese yen has fallen to an 18-month low as hedge funds bet that Japanese authorities will tolerate the exchange rate slipping toward the 165 level. Analysts warn that if the key technical level of 162 is breached, the exchange rate could quickly soar to 170, putting the deterrent power of government intervention to the test in the market.

On Thursday, options market data showed that the volume of bullish options betting on a rising dollar was more than twice that of puts, highlighting the market's expectation of continued yen weakness. At present, the USD/JPY exchange rate has risen to 158.50, after falling 0.4% the previous day.

Japan’s Finance Minister Katayama Takezuki and senior monetary policy officials have issued intervention warnings, stressing that "no measures are ruled out" to stabilize the currency market. Bank of Japan Governor Kazuo Ueda also reiterated that rate hikes will continue, but this has not reversed the yen’s downward trend.

Prime Minister Sanae Takaichi’s early election plans have intensified pressure on the yen. Investors expect that if the Liberal Democratic Party wins a majority, expansionary policies will continue, further boosting the dollar against the yen.

Hedge Funds Ignore Intervention Warnings

Despite frequent intervention signals from authorities, hedge funds are still betting in the forex options market that the yen will fall toward 165. Sagar Sambrani, senior FX options trader at Nomura International, said, Hedge funds’ demand for higher USD/JPY structures persists, with steady direct options buying and leveraged structured trades appearing in the market, expecting possible intervention by the central bank in the 160 to 165 range.

According to depository and clearing company data, on Wednesday, in options trades with a nominal value of $100 million or more, bullish option trading was more than twice as high as bearish. This trend continued on Thursday. As of 12:10 PM Hong Kong time, the same large-volume bullish options still doubled bearish, highlighting the bullish preference for the dollar against the yen, despite the rate climbing to the level at which Japan’s Ministry of Finance intervened in July 2024.

Leverage structures used by hedge funds include reverse knock-out options, which are invalid if certain price barriers are hit, making them more cost-effective than standard call options. The rapid rise in the exchange rate and threat of intervention have also prompted some investors to buy puts for hedging. The last intervention by Japan lasted two days, with USD/JPY dropping 2.6% from a peak of 161.76 on the first day.

Mukund Daga, global head of FX options at Barclays, said some investors are seeking short-term downside protection in response to concerns about potential intervention.

Key Technical Level Faces Risk of Breakdown

Hideki Shibata, senior interest rate and FX strategist at Tokai Tokyo Intelligence Laboratory, pointed out, If USD/JPY breaks the 162 level, the rate could quickly soar to 170. According to Bloomberg, this assessment is based on option-linked orders concentrated near 162.

Shibata stated in a report that a large number of orders to buy dollars and sell yen are linked to that level, and once broken, the risk of rapid rate fluctuation will markedly increase. As the rate nears option strike prices, market makers’ hedging behavior often amplifies market volatility, forming self-reinforcing trends.

Shibata noted that real interest rates are highly likely to remain negative, making a yen appreciation trend difficult to form. Negative real rates weaken the attractiveness of holding yen, fundamentally limiting its upside.

More noteworthy is the weakening of the yen’s safe-haven attributes. Even with the rise in risk aversion caused by US seizure of the Venezuelan president, the yen has continued to weaken. Shibata believes this is partly due to yen net positions in the IMM currency futures market being basically neutral.

Speculative Positions Have Changed

The current market environment is significantly different from 2024. Shibata said that the situation where yen appreciation was driven by short covering in 2024 is unlikely to happen again. IMM currency futures data shows that yen net positions are neutral, meaning there are no large-scale shorts left for covering.

This structural change has weakened the yen’s potential rebound momentum, making it more vulnerable to unidirectional selling pressure. The shift in speculative positions means that even if Japanese authorities intervene, it may be difficult to replicate last year’s effects.

Historical data shows that the 160 threshold is a key intervention line for Japanese authorities. In 2024, they intervened four times near this level to support the yen. However, the current position structure makes the effectiveness of intervention questionable.

Political Uncertainty Pressures the Yen

Prime Minister Sanae Takaichi’s early election plans are increasing downward pressure on the yen. Investors expect that if the Liberal Democratic Party wins a majority, expansionary policies will continue. The USD/JPY rate once touched 159.45, approaching the July 2024 low.

Deutsche Bank’s latest report outlines three possible election scenarios. If the LDP fails to win an outright majority, it will be seen as a real defeat, and fears of political gridlock could trigger stock market sell-offs and safe-haven yen appreciation. But if the party wins an absolutely stable majority, a solid political base will lead to yen weakness due to expected fiscal expansion.

Despite clear policy signals from Katayama Takezuki and Kazuo Ueda, these statements have not yet effectively curbed yen weakness. This highlights the structural pressures faced by the yen and the policy challenges for Japanese authorities in a landscape of heightened political uncertainty.

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