Synopsis:

RBC anticipates a sustained rally in the USD/JPY currency pair, projecting a climb towards 154 by the second quarter of 2024, followed by a gradual decline towards 145 by the end of the year. The forecast hinges on the interplay between foreign and domestic investment flows, particularly the impact of Japanese investors' hedging strategies on the yen's valuation.

Key Points:

• Short-Term Volatility Expected: In the immediate future, USD/JPY may experience further upward pressure due to the reestablishment of short positions or a drop in international yields.
• Domestic Flow to Drive Long-Term Trends: Over time, RBC expects domestic investment flow to be the primary determinant of the yen's trajectory, influenced by significant shifts in hedging costs.
• Impact of Hedging Costs: The recent inversion of yields and hedging costs has led Japanese investors to reduce hedging on foreign bonds, exerting downward pressure on the yen.
• Anticipated Shift in Hedge Ratios: Although the current trend is yen-negative, RBC suggests that once Japanese investors reach their desired hedge ratios, the yen's depreciation will stabilize.

Conclusion:

The outlook for USD/JPY from RBC points to a continued rally in the near term, driven by changes in domestic hedging behavior among Japanese investors. As these investors adjust to the new hedging cost paradigm, the currency pair is expected to peak in mid-2024 before receding towards the year's end. The forecast indicates a complex interplay of factors shaping the yen's valuation, with investor behavior being a critical element to watch.