Analysis of Potential BOJ Rate Hike and Yen Carry Trade Unwind Impact on Global Markets

On December 14, 2025, Seeking Alpha published an article highlighting the BOJ’s potential rate hike—its first in 11 months—driven by ongoing yen weakness and narrowing U.S.-Japan interest rate differentials [1]. The U.S. Federal Reserve recently cut rates by 0.25% (its third cut of 2025), bringing the target range to 4.25-4.50% [2]. Despite this narrowing spread, Japanese investors continue to favor U.S. equities, sustaining dollar strength and yen weakness.

The yen carry trade, a strategy where investors borrow yen at low BOJ rates to invest in higher-yielding U.S. assets, has been a key driver of global capital flows [0]. A BOJ rate hike would increase the cost of borrowing yen, reducing the trade’s profitability. This could trigger an unwind, where investors sell U.S. assets (stocks, bonds) and repurchase yen to close positions—potentially weakening the dollar and pressuring U.S. equities [0].

Initial market reactions reflect these concerns: the SPDR S&P 500 ETF (SPY) closed down 1.08% on December 14, while the iShares MSCI Japan ETF (EWJ) fell 0.28% [0]. Forward rates signal potential yen appreciation, indicating market participants are pricing in some likelihood of a hike [1]. A sustained BOJ tightening cycle could reverse multi-year yen weakness, reducing Japanese investment in U.S. assets and shifting capital toward Japanese markets.

1. Asymmetric Market Impact
   : SPY’s larger decline (1.08%) compared to EWJ’s 0.28% suggests that U.S. equities are more sensitive to potential carry trade unwinds, likely due to the scale of Japanese investments in U.S. markets [0].
2. Policy Convergence Risks
   : The Fed’s rate cuts and BOJ’s potential hikes are narrowing long-standing interest differentials, undermining the carry trade’s core premise. This convergence could accelerate capital flow shifts globally.
3. Unpriced Variables
   : The exact BOJ rate level, hike magnitude, and timing remain unknown, creating uncertainty about the unwind’s speed and scale [1]. Decision-makers need to monitor these variables closely.

1. Market Volatility
   : A sudden carry trade unwind could lead to sharp declines in U.S. equities and Treasuries, as well as rapid yen appreciation, increasing global market volatility [0].
2. Global Spillover
   : The yen carry trade is a global strategy, so an unwind could impact asset classes and regions beyond the U.S. and Japan.
3. Policy Uncertainty
   : The BOJ’s future tightening path is unclear; mixed signals could exacerbate market stress [1].

1. Japanese Asset Attractiveness
   : As BOJ rates rise, Japanese assets (bonds, equities) may become more appealing to global investors, potentially driving capital inflows [0].
2. Yen Appreciation Benefits
   : A stronger yen could reduce import costs for Japanese consumers and businesses, supporting domestic spending [0].

• The BOJ is poised to raise rates for the first time in 11 months, driven by yen weakness and narrowing U.S.-Japan rate spreads [1].
• A rate hike could trigger a yen carry trade unwind, pressuring U.S. equities and weakening the dollar [0].
• Initial market data: SPY down 1.08%, EWJ down 0.28% on December 14 [0].
• Fed target rate is 4.25-4.50% post-December 0.25% cut [2].
• Key risks include market volatility and global spillover; opportunities may lie in Japanese assets [0].