Japan's government bond Intrerest Rate has surpassed 1%, and the "ghost stories" of the global financial market have begun.

Written by: Liam, Deep Tide TechFlow

Let me tell you a ghost story:

Japan's two-year government bond yield has risen to 1% for the first time since 2008; the five-year government bond yield increased by 3.5 basis points to 1.345%, a new high since June 2008; the 30-year government bond yield briefly touched 3.395%, setting a historic high.

The significance of this matter is not just “interest rates exceeding 1%”, but rather:

The era of extreme monetary easing in Japan over the past decade is being permanently written into history.

From 2010 to 2023, Japan's two-year government bond yield has fluctuated almost constantly between -0.2% and 0.1%. In other words, money in Japan was essentially free or even paid to lend you.

This is due to the fact that Japan's economy has been trapped in a deflationary cycle of stagnant prices, stagnant wages, and weak consumption since the bubble burst in 1990. In order to stimulate the economy, the Bank of Japan has implemented the most aggressive and extreme monetary policies in the world, including zero interest rates and even negative interest rates, making money as cheap as possible. Borrowing money is almost free, and you end up paying to keep your money in the bank, which forces everyone to invest and consume.

Currently, Japan's government bond yields have turned positive overall, rising to 1%. This is not only related to Japan itself but also affects the world, at least in three aspects:

First, it represents a complete shift in Japan's monetary policy.

Zero interest rates, negative interest rates, and YCC (Yield Curve Control) have come to an end. Japan is no longer the only major economy in the world maintaining “extremely low interest rates”; the era of monetary easing has been completely terminated.

Secondly, it has also changed the global capital pricing structure.

In the past, Japan was one of the world's largest overseas investors (especially pension funds like GPIF, insurance companies, and banks), due to the domestic interest rates being too low. To pursue higher yields, Japanese companies invested heavily overseas, directing funds to the United States, Southeast Asia, and China. Now, as domestic interest rates rise, the “outbound momentum” of Japanese funds may decline, and there may even be a shift of funds back to Japan from overseas.

Finally, and this is the point that traders pay the most attention to, a 1% increase in Japanese interest rates means that the funding chain that has relied on Japan for arbitrage (carry trade) over the past 10 years will experience a systemic contraction.

This will affect the US stock market, Asian stock markets, foreign exchange markets, gold, Bitcoin, and even global liquidity.

Because carry trading is the invisible engine of the global finance.

Yen arbitrage is gradually being terminated.

In the past decade, one important reason why global risk assets such as U.S. stocks and Bitcoin have continued to rise is the Yen Carry Trade.

Imagine that the money you borrow in Japan is almost free.

Borrow 100 million yen in Japan with an interest rate of only 0%~0.1%, then convert this 100 million yen into US dollars and use it in the US to buy government bonds with a yield of 4% or 5%, or invest in stocks, gold, or Bitcoin, and finally convert it back to yen to repay the loan.

As long as there is an interest rate difference, you make a profit; the lower the interest rate, the more arbitrage there is.

There is no publicly available precise figure, but global institutions generally estimate that the scale of yen arbitrage is between 1 to 2 trillion USD at the low end and 3 to 5 trillion USD at the high end.

This is one of the largest and most invisible sources of liquidity in the global financial system.

Many studies even believe that yen arbitrage is one of the real driving forces behind the repeated record highs of US stocks, gold, and BTC over the past decade.

The world has been using “Japan's free money” to elevate risk assets.

The yield on Japan's 2-year government bonds has risen to 1% for the first time in 16 years, which means that this “free money pipeline” has been partially shut off.

The result is:

Foreign investors can no longer borrow cheap yen for arbitrage, putting pressure on the stock market.

Domestic funds in Japan have also begun to flow back into the country, especially from Japanese life insurance, banks, and pension funds, which will reduce their allocation to overseas assets.

Global capital begins to withdraw from risk assets, and a stronger yen often signifies a decline in global market risk appetite.

How does the stock market impact?

The US stock market's bull market over the past 10 years has been driven by the influx of cheap global capital, with Japan being one of the biggest pillars.

Japan's rising interest rates directly hinder a large influx of funds into the US stock market.

Especially with the current high valuations of US stocks and doubts about the AI theme, any withdrawal of liquidity could amplify corrections.

The entire Asia-Pacific stock market has also been affected, with markets in South Korea, Taiwan, and Singapore previously benefiting from the yen carry trade.

As Japan's interest rates rise, capital will start to flow back to Japan, and the volatility of Asian stock markets will increase in the short term.

For the Japanese stock market itself, a rise in domestic interest rates will put short-term pressure on the stock market and lead to a decline, especially for companies that heavily rely on exports. However, in the long run, the normalization of interest rates will help the economy escape deflation, re-enter a development phase, and rebuild the valuation system, which will be beneficial.

This may also be the reason why Buffett continues to increase his investment in the Japanese stock market.

Warren Buffett publicly disclosed for the first time on August 30, 2020, his 90th birthday, that he held about 5% of the shares in each of Japan's five major trading companies, with a total investment value of approximately $6.3 billion.

Five years have passed, and with the rise in stock prices and continuous investments, the total market value of the five major Japanese trading companies held by Buffett has surpassed 31 billion dollars.

The Japanese yen fell to its lowest point in nearly 30 years from 2022 to 2023, and Japanese equity assets overall have “taken a hit.” For value investors, this represents a typical investment opportunity: assets are cheap, profits are stable, dividends are high, and the exchange rate may also reverse… This investment opportunity is too attractive.

Bitcoin and gold

Aside from the stock market, how does the appreciation of the yen affect gold and Bitcoin?

The pricing logic of gold has always been simple:

The US dollar is weak, gold prices rise; real interest rates decrease, gold prices rise; global risks increase, gold prices rise.

Each one is directly or indirectly related to the turning point of Japan's interest rate policy.

First of all, the rise in Japanese interest rates means an appreciation of the yen, which accounts for as much as 13.6% in the Dollar Index (DXY). A stronger yen directly puts pressure on the DXY; when the dollar weakens, gold naturally loses its greatest suppressive force, making it easier for prices to rise.

Secondly, the reversal of interest rates in Japan marks the end of over a decade of “global cheap money.” Yen carry trades are beginning to flow back, and Japanese institutions are reducing overseas investments, leading to a decline in global liquidity. During the liquidity contraction cycle, funds are more inclined to withdraw from high-volatility assets and turn towards gold as a “settlement asset, safe-haven asset, and asset with no counterparty risk.”

Thirdly, if Japanese investors reduce their purchases of gold ETFs due to rising domestic interest rates, the impact will also be limited, as the main source of global gold demand is not in Japan, but in the long-term trends of central bank gold purchases, ETF accumulation, and increasing purchasing power in emerging markets.

Therefore, the impact of this round of rising Japanese yields on gold is clear:

Short-term may be volatile, but medium to long-term remains bullish.

Gold is back in a favorable combination of “interest rate sensitivity + dollar weakening + rising safe-haven demand”, and is optimistic in the long term.

Unlike gold, Bitcoin is considered the most liquid risk asset globally, traded around the clock and highly correlated with the Nasdaq. Therefore, when Japanese interest rates rise, yen carry trades return, and global liquidity tightens, Bitcoin is often one of the first assets to decline; it is exceptionally sensitive to market changes, like a “liquidity ECG” of the market.

But a short sell does not equal long-term pessimism.

Japan entering an interest rate hike cycle means an increase in global debt costs, heightened volatility in U.S. Treasuries, and rising fiscal pressures in various countries. In this macro context, assets with “no sovereign credit risk” are being re-evaluated: in traditional markets, it's gold, while in the digital world, it's Bitcoin.

Therefore, the path of Bitcoin is also very clear: it falls in the short term along with risk assets, but in the medium term, it welcomes new macro-level support due to the rise in global credit risk.

In conclusion, the era of risk assets that thrived on “Japanese free money” for more than a decade has come to an end.

The global market is entering a new interest rate cycle, a more realistic and also more brutal cycle.

From the stock market, gold to Bitcoin, no asset can remain unaffected.

When liquidity withdraws, assets that can stand firm become more valuable. During cyclical transitions, understanding that hidden chain of funds is the most important ability.

The curtain of the new world has already been raised.

Next, let's see who adapts faster.