MUFG says the market, not the Bank of Japan, is driving the surge in rate-hike bets — and that gap is exactly why the yen has failed to rally despite them.

Expectations of a BOJ rate hike at the September meeting have climbed to around 80%, according to MUFG, helped by reports late last week and the recent rise in oil prices, with markets also assigning roughly a 50% probability of two hikes by year-end. Yet in the bank's view, that shift in pricing has not translated into yen buying — a disconnect it considers telling in itself.

The disconnect MUFG highlights — hike odds near 80% without corresponding yen buying — points to a market that has priced in tightening ahead of any clear signal from the BOJ itself, leaving the currency vulnerable if the central bank either delivers less than expected or pushes back against the pricing. On this reading, a hawkish surprise would likely be needed just to hold the yen steady, while any attempt by the BOJ to talk down the probability risks reigniting weakness at a moment when USD/JPY is already sitting just below the intervention-sensitive 160 level.

MUFG points to July inflation data, released on 21 August, which showed price growth accelerating from the previous month despite downward pressure from rice prices, reinforcing the case for further increases ahead. At the same time, long and super-long-dated Japanese government bond yields remain under upward pressure, driven by a steady stream of reports on next fiscal year's budget under the government's expansionary fiscal stance and by speculation over a possible Cabinet reshuffle as early as next month. Elevated longer-dated JGB yields add another layer of pressure on Japanese assets, and the Nikkei 225's struggle to extend gains suggests equities are not offering an offsetting source of yen demand either.

Against that backdrop of headwinds facing Japanese assets more broadly, MUFG notes the yen has actually weakened against currencies other than the dollar even as rate hike expectations have built, with USD/JPY sitting just below the intervention-sensitive 160 level amid intervention concerns. That matters because it shows the market is not responding only to BOJ pricing, but also to a wider mix of domestic rate, bond, and equity signals that have yet to produce sustained yen support.

MUFG also flags that there has been no confirmation as of writing that BOJ Governor Kazuo Ueda will attend the Jackson Hole symposium, though Deputy Governor Ryozo Himino is scheduled to speak at a meeting with local leaders on 27 August.

The bank argues that if the BOJ believed the market's 80% pricing of a September hike was misplaced, it would presumably move to correct that view. But doing so carries its own risk, since pushing back against the pricing could itself become a fresh catalyst for yen weakness at a time when intervention concerns are already keeping USD/JPY just below the 160 level. MUFG notes that such an outcome would sit awkwardly alongside the BOJ's own recent emphasis on the risk that a weaker yen could push consumer inflation higher via costlier imports.

Taken together, MUFG suggests the recent surge in rate hike expectations looks more like the market pushing the BOJ to act than a result of the central bank's own guidance — a dynamic it says may also explain why those expectations have failed to generate yen buying.

With the BOJ's next policy meeting set for mid-September and the central bank due to step up its communication with markets from next week, MUFG says the key focus will be on how policymakers shape expectations beyond the September meeting itself. For now, the bank cautions that the pricing already implies a high bar, so any message that falls short of current expectations could leave the yen exposed in the near term.

Source: Investinglive